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Does Regulating Banks’ Corporate Governance Help? A Review of the Empirical Evidence

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Corporate Governance in Banking and Investor Protection

Part of the book series: CSR, Sustainability, Ethics & Governance ((CSEG))

Abstract

The financial crisis of 2007–2008 fueled the idea that corporate governance in the financial sector urgently needed reform. The perception that poor corporate governance was a primary cause of the breakdown of the financial markets prompted extensive regulatory actions around the world. However, whether and how regulating banks’ corporate governance results in a better-functioning economy is a subject of ongoing debate. In this chapter we summarize the theoretical arguments for regulation and survey the empirical evidence on the role of corporate governance in the financial industry. The focus of our review is the post-crisis reform of banks’ corporate governance, as seen from a historical perspective. The discussion will be structured around the main corporate governance mechanisms, namely (i) internal governance mechanisms (i.e., managerial compensation, board monitoring, and internal control systems), (ii) market discipline (i.e., the roles of competition, the takeover market, and the shareholder activism), and (iii) regulatory intervention (i.e., capital requirements and regulatory supervision). Although a large part of the available evidence uses US data, our analysis also reviews corporate governance developments in important economies around the globe. We conclude by pointing out the limitations of empirical research in informing the debate on regulatory activity.

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Notes

  1. 1.

    Exceptionally, and under certain conditions, shareholders could increase this maximum ratio to 200%.

  2. 2.

    The codes of good governance gather corporate governance best practices suggested by professional organizations and investor activists. Unlike legal, regulatory, and listing requirements, the adoption of these best practices is voluntary. However, investors may penalize companies if firms’ governance practices do not follow the codes of good governance.

  3. 3.

    For example, banks often own or control many subsidiary banks, each of which has its own board. Coordination among these different boards may affect the structure of the board of the bank because of the need to include directors from the subsidiary Adams and Mehran (2003).

  4. 4.

    In the United States, most publicly traded banks are organized as a bank holding company (BHC) in which each subsidiary is chartered and has its own board. Often, directors of the parent BHC will sit on the board of the subsidiaries. This differs from most non-financial firms, which are organized along divisional lines and whose subsidiaries often do not have separate legal identities Adams (2012).

  5. 5.

    The “cajas de ahorro” are nonprofit institutions in the Spanish financial system governed by representatives of their depositors, employees, and the local authorities. With the liberalization of the Spanish financial system in the 1980s, the cajas evolved into full-service financial institutions and started to expand beyond their geographic regions.

  6. 6.

    The Basel Committee on Banking Supervision (“Basel Committee”) issued Basel I and Basel II, a global voluntary regulatory framework focused primarily on the level of bank loss reserves that banks are required to hold. Moreover, the Basel Committee issued Basel III , which focuses primarily on the risk of a run on the bank and requires differing levels of reserves for different forms of bank deposits and other borrowings.

  7. 7.

    Banks in the U.S. can choose between a national and a state charter. Only federal regulators, in particular the Office of the Comptroller of the Currency (OCC), supervise nationally chartered commercial banks. State-chartered banks are supervised both by state banking departments and federal regulators. The primary federal regulator of state banks is determined by their membership in the Federal Reserve System. The Federal Reserve supervises state member banks, while the Federal Deposit Insurance Corporation (FDIC) supervises nonmember banks.

  8. 8.

    That said, concentrated ownership can also have significant advantages Shleifer and Vishny (1997). In fact, some authors argue that, in developing corporate governance regulation for European countries, policy makers should recognize that the separation of ownership and control is a lesser issue in the Southern European countries than in countries whose economies are dominated by widely held firms (e.g., Aguilera and Cuervo-Cazurra 2004). Following this logic, García-Ramos and García-Olalla (2014) question whether all governance practices that are common in the US should be applied to Southern European firms.

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Acknowledgments

We thank Eloy Lanau and Vicent Peris for their excellent research assistance. Gaizka Ormazabal thanks the Marie Curie and Ramon y Cajal Fellowships and the Spanish Ministry of Science and Innovation, grants ECO2010-19314 and ECO2011-29533.

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Authors and Affiliations

  1. IESE Business School, Barcelona, Spain

    Miguel Duro & Gaizka Ormazabal

  2. C.E.P.R., London, UK

    Gaizka Ormazabal

Authors
  1. Miguel Duro
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  2. Gaizka Ormazabal
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Correspondence to Gaizka Ormazabal .

Editor information

Editors and Affiliations

  1. Department of Business Administration, University of Cantabria, Santander, Spain

    Belén Díaz Díaz

  2. Guildhall Faculty of Business and Law, London Metropolitan University, London, United Kingdom

    Samuel O. Idowu

  3. College of Business Administration, University of Sharjah, Sharjah, United Arab Emirates

    Philip Molyneux

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Duro, M., Ormazabal, G. (2018). Does Regulating Banks’ Corporate Governance Help? A Review of the Empirical Evidence. In: Díaz Díaz, B., Idowu, S., Molyneux, P. (eds) Corporate Governance in Banking and Investor Protection. CSR, Sustainability, Ethics & Governance. Springer, Cham. https://doi.org/10.1007/978-3-319-70007-6_1

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