Showing papers by "Andrei Shleifer published in 1988"

Industrialization and the Big Push

Abstract: This paper explores Rosenstein-Rodman's (1943) idea that simultaneous industrialization of many sectors of the economy can be profitable for all of them, even when no sector can break even industrializing alone. We analyze this ides in the context of an imperfectly competitive economy with aggregate demand spillovers, and interpret the big push into industrialization as a move from a bad to a good equilibrium. We show that for two equilibria to exist, it must be the case that an industrializing firm raises the demand for products of other sectors through channels other than the contribution of its own profits to demand. For example, a firm paying high factory wages raises demand in other manufacturing sectors even if it loses money. In a similar vein, a firm investing today in order to produce at low cost tomorrow shifts income and hence demand for other goods into the future and so makes it more attractive for other firms also to invest today. Finally, an investing firm can benefit firms in other sectors if it uses a railroad or other shared infrastructure, and hence helps to defray the fixed cost of building the railroad. All these transmission mechanisms that help generate the big push seem to be of some relevance for less developed countries.

Breach of Trust in Hostile Takeovers

Abstract: The paper questions the common view that share price increases of firms involved in hostile takeovers measure efficiency gains from acquisitions. Even if such gains exist, most of the increase in the combined value of the target and the acquirer is likely to come from stakeholder wealth losses, such as declines in value of subcontractors' firm-specific capital or employees' human capital. The use of event studies to gauge wealth creation in takeovers is unjustified. The paper also suggests a theory of managerial behavior, in which hiring and entrenching trustworthy managers enables shareholders to commit to upholding implicit contracts with stakeholders. Hostile takeovers are an innovation allowing shareholders to renege on such contracts ex post, against managers' will. On this view, shareholder gains are redistributions from stakeholders, and can in the long run result in deterioration of trust necessary for the functioning of the corporation.

The Survival of Noise Traders in Financial Markets

Abstract: We use the revised estimates of U.S. GNP constructed by Christina Romer (1989) to assess the time-series properties of U.S. output per capita over the past century. We reject at conventional significance levels the null that output is a random walk in favor of the alternative that output is a stationary autoregressive process about a linear deterministic trend. The difference between the lack of persistence of output shocks either before WWII or over the entire century, on the one hand, and the strong signs of persistence of output shocks found by Campbell and Mankiw (1987) and by Nelson and Plosser (1982) for more recent periods is striking. It suggests to us a Keynesian interpretation of the large unit root in post-WWII U.S. output: perhaps post-WWII output shocks appear persistent because automatic stabilizers and other demand-management policies have substantially damped the transitory fluctuations that made up the pre-WWH Bums-Mitchell business cycle.

Alternative Mechanisms for Corporate Control

Abstract: We examine performance and management characteristics of Fortune 500 firms experiencing one of three types of control change: internally precipitated management turnover, hostile takeover, and friendly takeover. We find that firms experiencing internally precipitated management turnover perform poorly relative to other firms in their industries, but are not concentrated in poorly performing industries. In contrast, targets of hostile takeovers are concentrated in troubled industries. There is also weaker evidence that hostile takeover targets underperform their industry peers. We interpret this evidence as consistent with the idea that the board of directors is capable of firing managers whose leadership leads to poor performance relative to industry, but that an external challenge in the form of a hostile takeover is often required when the whole industry is in decline. The evidence also indicates that firms run by a member of the founding family are less likely to experience either internally precipitated top management turnover or a hostile takeover. On the other hand, firms whose top management team is dominated by a single, relatively young top executive, while lacking in internal discipline, are more likely to experience a hostile takeover.(This abstract was borrowed from another version of this item.)(This abstract was borrowed from another version of this item.)

Income Distribution, Market Size, and Industrialization

Abstract: When world trade is not free and costless, a less developed country can profitably industrialize only if its domestic markets are large enough. In such a country, for increasing returns technologies to break even, sales must be high enough to cover the set-up costs, This paper studies some determinants of the size of the domestic market, and focuses on two conditions conducive to industrialization. First, agriculture or exports must provide the source of autonomous demand for manufactures. Such expansion of autonomous demand usually results from increases in farm productivity or from opening of new export markets. Second, income generated in agriculture or exports must be broadly enough distributed that it materializes as demand for mass-produced domestic goods, and not just for luxuries. We resort to these two determinants of the size of domestic markets to interpret several historical development episodes.

Value Maximization and the Acquisition Process

Abstract: L ike the rest of us, corporate managers have many personal goals and ambitions, only one of which is to get rich. The way they try to run their companies reflects these personal goals. Shareholders, in contrast, deprived of the pleasures of running the company, only care about getting rich from the stock they own. Hence, when managers ignore profits to keep up traditional lines of business, conflicts are bound to arise. While many academic papers teach us that shareholder and market pressure will still force managers to maximize value, the newspapers remind us that this is not always the case. Much corporate behavior seems best understood in terms of managers running the show largely as they please. The takeover wave of the 1980s put the manager-shareholder conflict to a new test. Where other checks on management failed, hostile takeovers could now wrest control from managers who ignored the interests of their shareholders. More so than ever before, fear of such disciplinary takeovers has forced managers to listen to shareholder wishes. But even now, many acquisitions are not of this disciplinary variety. Ironically, making acquisitions is often just the quickest and easiest way for managers to expand the scope of their control by directing the firm's cash flows into new ventures. In this paper, we appraise the acquisition process from the managerial perspective. Has the pressure brought by hostile takeovers effectively restricted non-

Industrialization and the Big Push

Abstract: This paper explores Rosenstein-Rodan's idea that simultaneous industrialization of many sectors of the economy can be profitable for them all even when no sector can break even industrializing alone. We analyze this idea in the context of an imperfectly competitive economy with aggregate demand spillovers and interpret the big push into industrialization as a move from a bad to a good equilibrium. We present three mechanisms for generating a big push and discuss their relevance for less developed countries.

Alternative Mechanisms for Corporate Control

Abstract: We examine performance and management characteristics of Fortune 500 firms experiencing one of three types of control change: internally precipitated management turnover, hostile takeover, and friendly takeover. We find that firms experiencing internally precipitated management turnover perform poorly relative to other firms in their industries, but are not concentrated in poorly performing industries. In contrast, targets of hostile takeovers are concentrated in troubled industries. There is also weaker evidence that hostile takeover targets underperform their industry peers. We interpret this evidence as consistent with the idea that the board of directors is capable of firing managers whose leadership leads to poor performance relative to industry, but that an external challenge in the form of a hostile takeover is often required when the whole industry is in decline. The evidence also indicates that firms run by a member of the founding family are less likely to experience either internally precipitated top management turnover or a hostile takeover. On the other hand, firms whose top management team is dominated by a single, relatively young top executive, while lacking in internal discipline, are more likely to experience a hostile takeover.

Management ownership and market valuation

Abstract: We investigate the relation between management ownership and corporate performance, as measured by Tobin's Q. In a cross-section of Fortune 500 firms, Tobin's Q first increases and then declines as board of directors holdings rise. For older firms there is weak evidence that Q is lower when a firm is run by a member of the founding family than when it is run by an officer unrelated to the founder.

The Efficiency of Investment in the Presence of Aggregate Demand Spillovers

Abstract: In the presence of aggregate demand spillovers, an imperfectly competitive form's profit is positively related to aggregate income, which in turn rises with profits of all firms in the economy. This pecuniary externality makes a dollar of a firm's profit raise aggregate income by more than a dollar since other firms' profits also rise, and in this way gives rise to a "multiplier." Since such multipliers are ignored by firms making investment decisions, privately optimal investment decisions under uncertainty will not in general be socially optimal. Under reasonable conditions, investment is too low.

Income Distribution, Market Size, and Industrialization

Abstract: When world trade is not free and costless, a less developed country can profitably industrialize only if its domestic markets are large enough. In such a country, for increasing returns technologies to break even, sales must be high enough to cover the set-up costs, This paper studies some determinants of the size of the domestic market, and focuses on two conditions conducive to industrialization. First, agriculture or exports must provide the source of autonomous demand for manufactures. Such expansion of autonomous demand usually results from increases in farm productivity or from opening of new export markets. Second, income generated in agriculture or exports must be broadly enough distributed that it materializes as demand for mass-produced domestic goods, and not just for luxuries. We resort to these two determinants of the size of domestic markets to interpret several historical development episodes.

Costs of Financial Distress, Delayed Calls of Convertible Bonds, and the Role of Investment Banks

Abstract: In a frictionless market with perfect information, a shareholder-wealth- maximizing firm should force conversion of its convertible bond issue into stock as soon as the bond comes in-the-money. Firms however appear to systematically delay forced conversion, sometimes for years, beyond this time. We show that the observed delays can be plausibly explained in terms of costs to shareholders of a failed conversion and the ensuing financial distress. Firms delay the forced conversion to avoid the self-fulfilling outcome that bondholders expect the conversion to fail, tender their bonds for cash, and the stock price falls to account for the costs of financial distress, in which case tendering for cash is in fact optimal. Unlike other explanations of delayed forced conversion, we can explain the common use of investment banks to underwrite these transactions, since the banks can eliminate the self-fulfilling bad outcome.

The Survival of Noise Traders in Financial Markets

Abstract: The authors present a model of portfolio allocation by noise traders with incorrect expectations about return variances. For such misperceptions, noise traders who do not affect prices can earn higher expected returns than rational investors with similar risk aversion. Moreover, such noise traders can come to dominate the market in that the probability that they eventually have a high share of total wealth is close to one. Noise traders come to dominate despite their taking of excessive risk and their higher consumption. The authors conclude that the case against their long-run viability is not as clear-cut as is commonly supposed.

Alternative Mechanisms for Corporate Control

Abstract: We examine performance and management characteristics of Fortune 500 firms experiencing one of three types of control change: internally precipitated management turnover, hostile takeover, and friendly takeover. We find that firms experiencing internally precipitated management turnover perform poorly relative to other firms in their industries, but are not concentrated in poorly performing industries. In contrast, targets of hostile takeovers are concentrated in troubled industries. There is also weaker evidence that hostile takeover targets underperform their industry peers. We interpret this evidence as consistent with the idea that the board of directors is capable of firing managers whose leadership leads to poor performance relative to industry, but that an external challenge in the form of a hostile takeover is often required when the whole industry is in decline. The evidence also indicates that firms run by a member of the founding family are less likely to experience either internally precipitated top management turnover or a hostile takeover. On the other hand, firms whose top management team is dominated by a single, relatively young top executive, while lacking in internal discipline, are more likely to experience a hostile takeover.