Implications for Corporate Governance Reforms

As suggested in section 7.3.3, the amount of autonomous cost of capital a _s can be seen as decreasing in the overall quality of law Q (e.g. contract law, law enforcement, etc.). The reason for this is straightforward. The easier it is for an agent to exploit the principal, the higher are the resulting agency cost. Since the outsider system relies heavily on arm’s length financing supported by the legal system it is reasonable to assume that the autonomous costs of capital a _D of dispersed control is more elastic in Q than the autonomous costs of capital a _c of concentrated control, which is also enforced by relationship-based means. Figure 29 illustrates this idea. Both kinds of autonomous costs of capital are decreasing in the quality of law, but the autonomous costs of capital of dispersed control a _D are decreasing faster from a higher level.