The Economist claims that South Korea's allegedly weak corporate governance rules are responsible for South Korea's allegedly underperforming equitiy market:
So what is the source of the “Korea discount”, which means that the KOSPI has a forward price-to-earnings ratio of under ten, below most other Asian stockmarkets (see chart)? There are a few possibilities. The national economic model is still built on exports, often in highly cyclical industries such as shipbuilding. The capital structure of South Korean firms has historically been debt-heavy.
But the prime cause of the discount is more likely to be poor corporate governance at the family-run chaebol conglomerates that dominate the economy. Nefarious schemes to pass on control to sons, avoid taxes and exploit company assets for the benefit of family members are widely discussed in private.
What I know about South korean corporate governance would not take very long to recite, but even so I read the Economist article with some skepticism.
While superior corporate governance logically ought to lead to superior stock performance, the evidence of such an effect is weak. Indeed, event studies (at least in the US) generally don't show much of a link between the two:
Virtually all of the important mechanisms of corporate governance have been subjected to event study analysis. These include boards of directors, shareholder proposals, derivative lawsuits, and executive compensation. Although all of these devices have been posited to perform a critical function of reducing the agency costs of the separation of ownership and control in the U.S. public corporation, empirical studies do not provide strong support for this viewpoint. Neither shareholder proposals nor lawsuits have a significant positive price effect. A positive stock price effect is associated with appointment of an independent director to the board, but board composition has not been found to impact positively on performance.
Sanjai Bhagat & Roberta Romano, Event Studiesand the Law: Empirical Studies of Corporate Law, 4 Am. L. & Econ. Rev. 380, 401 (2002).
There are, I suppose, two possible explanations for that finding. First, superior corporate governance rules either do not affect stock prices or have such a minor effect that they are swamped by other factors. Second, conventional wisdom about what constitutes superior corporate governance is wrong. Both explanations suggest that The Economist's recommendation that South Korea adopt such rules may not corret the alleged problem. As Bhagat and Romano observed of their findings: "These findings suggest that widely shared beliefs concerning what are essential components for effective corporate governance may be mistaken and that affirmative policies to foster such devices ought to be reconsidered."
Another reason I'm skeptical of The Economist's account is my understanding that chaebol “can be thought of as the brainchild of the government.” Sung-Hee Jwa, The Evolution of Large Corporations in Korea: A New Institutional Perspective on the Chaebol 19 (2002). “Basically, the formation and growth of the chaebol was a result of the interaction between the government's industrial policies and the chaebol's responses to them.” Id. at 27. According to Gilson and Milhaupt, "important bilateral monopoly qualities of the government-chaebol relationship remain to this day." 59 AMJCL 227, 249 (2011).
One therefore wonders whether state meddling is more to blame than poor governance.
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