In 1974 an article appeared in Science magazine with the dry-sounding title “Judgment Under Uncertainty: Heuristics and Biases” by a pair of psychologists who were not well known outside their discipline of decision theory. In it Amos Tversky and Daniel Kahneman introduced the world to Prospect Theory, which mapped out how humans actually behave when faced with decisions about gains and losses, in contrast to how economists assumed that people behave. Prospect Theory turned Economics on its head by demonstrating through a series of ingenious experiments that people are much more concerned with losses than they are with gains, and that framing a choice from one perspective or the other will result in decisions that are exactly the opposite of each other, even if the outcomes are monetarily the same. Prospect Theory led cognitive psychology in a new direction that began to uncover other human biases in thinking that are probably not learned but are part of our brain’s wiring.

Thinking fast and slow.

https://www.nber.org/system/files/working_papers/w8178/w8178.pdf

The great reversals: the politics of financial development in the twentieth century

Indicators of the development of the financial sector do not improve monotonically over time. In particular, we find that by most measures, countries were more financially developed in 1913 than in 1980 and only recently have they surpassed their 1913 levels. This pattern cannot be explained by structural theories that attribute cross-country differences in financial development to time-invariant factors, such as a country's legal origin or culture. We propose an "interest group" theory of financial development where incumbents oppose financial development because it breeds competition. The theory predicts that incumbents' opposition will be weaker when an economy allows both cross-border trade and capital flows. This theory can go some way in accounting for the cross-country differences and the time series variation of financial development. When we recognize that different kinds of institutional heritages afford different scope for private interests to express themselves, we obtain a synthesis between the structural theories and private interest theory, which is supported by the data.

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The Great Reversals: The Politics of Financial Development in the 20th Century

Outside the United States and the United Kingdom, large corporations usually have controlling owners, who are usually very wealthy families. Pyramidal control structures, cross shareholding, and super-voting rights let such families control corporations without making a commensurate capital investment. In many countries, a few such families end up controlling considerable proportions of their countries’ economies. Three points emerge. First, at the firm level, these ownership structures, because they vest dominant control rights with families who often have little real capital invested, permit a range of agency problems and hence resource misallocation. If a few families control large swaths of an economy, such corporate governance problems can attain macroeconomic importance—affecting rates of innovation, economywide resource allocation, and economic growth. If political influence depends on what one controls, rather than what one owns, the controlling owners of pyramids have greatly amplified political influence relative to their actual wealth. This influence can distort public policy regarding property rights protection, capital markets, and other institutions. We denote this phenomenon economic entrenchment, and posit a relationship between the distribution of corporate control and institutional development that generates and preserves economic entrenchment as one possible equilibrium. The literature suggests key determinants of economic entrenchment, but has many gaps where further work exploring the political economy importance of the distribution of corporate control is needed.

/pdf/corporate-governance-economic-entrenchment-and-growth-4e2ab431gn.pdf

Corporate Governance, Economic Entrenchment, and Growth

History is replete with examples of spectacular ascents of family businesses. Yet there are also numerous accounts of family businesses brought down by bitter feuds among family members, disappointed expectations between generations, and tragic sagas of later generations unable to manage their wealth. A large fraction of businesses throughout the world are organized around families. Why are family firms so prevalent? What are the implications of family control for the governance, financing and overall performance of these businesses?

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The Role of Family in Family Firms

Sweden has a high degree of separation of ownership from control through pyramids, dualclass shares, and cross-holdings. This increases the potetitia! for private benefits of control. However. Sweden's extralegal institutions—-tax tompliatice and newspaper circulation— are consistent with greater shareholder protection. Using data on Swedish mergers we find limited evidence of shareholder expropriation. Apparently, Sweden's extralegal institutions offset the drawback of weak cotporate governance.

Minority Shareholder Protections and the Private Benefits of Control for Swedish Mergers

A law and finance analysis of initial public offerings

We study the short- and long-term valuation effects of Swedish takeovers. Using a sample of 93 bidding firms that acquired 101 targets between 1980 and 1995, we find that diversifying acquisitions lead to a negative market reaction and deterioration of the operating performance of the bidder. Announcement and performance gains in each of the three years following the acquisition occur only when bidders expand their core rather than their peripheral lines of business. Our findings suggest that focused acquisitions lead to greater synergies and operating efficiencies than diversifying acquisitions. Intra-group acquisitions, however, show that bidders do not realise significant gains whether they adopt diversifying or focusing investment strategies by purchasing firms controlled by the Wallenberg and SHB conglomerate groups. Intra-group targets realize significant gains regardless bidder’s investment strategy. Finally, the evidence does not support the view that intra-conglomerate acquisitions are associated with expropriation of minority shareholders. However, they appear to enhance the control rights of large shareholders of the bidding firm.

/pdf/diversification-ownership-and-control-of-swedish-1u0792ddbr.pdf

Diversification, Ownership and Control of Swedish Corporations

Rank matters–The impact of social competition on portfolio choice

Owners exploit the strong separation between ownership and control in pyramiding to establish control over several firms' internal cash flows via a very small capital investment. We establish that the large discounts on the pyramid holding company as well as on the portfolio firms at the bottom are directly linked to costs from overinvestment that increase with the separation between ownership and control. In an economy where pyramids are transparent and the tax system regulates the flow of dividends within the pyramid and to shareholders, the primary cause of the discounts is not tunneling but overinvestment costs.

Martin Holmen

Papers

Minority Shareholder Protections and the Private Benefits of Control for Swedish Mergers

A law and finance analysis of initial public offerings

Diversification, Ownership and Control of Swedish Corporations

Rank matters–The impact of social competition on portfolio choice

Pyramidal Discounts: Tunneling or Overinvestment?