An Introduction to Law & Finance
(…plus some supplementary materials)
ETH Zurich, 22 September 2015
Dr. oec. Paolo Pamini
Today’s Agenda
1. An “Introduction to Law & Finance”
1. What is Law & Finance?
2. Some useful resources (Journals, URLs,…)
2. A few things to know
1.
2.
3.
4.
5.
6.
22 Sept. 2015
Economic reasoning for dummies
Accounting and corporate finance
Financial markets institutions
Law & Banking
A short introduction to corporate governance
Law & Finance in the narrow sense
Introduction to Law and Finance
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AN INTRODUCTION TO LAW & FINANCE
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What is Law and Finance?
Law & Finance is a subdiscipline of
Law & Economics
Law and Economics
 “Economic analysis of law seeks to identify the effects of
legal rules on the behaviour of relevant actors and to
determine whether these effects are socially desirable.”
(Polinsky and Shavell 2008)
 Application of economic approach to legal questions
 Economic model of human behaviour
 Efficiency as important criteria
 Separation of allocation and distribution
 Inclusion of legislature, bureaucracy & interest groups as rational
actors
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Law & Finance deals with a wide
range of topics, such as
1. International differences – legal origins / political economy
2. Financial crisis, financial regulation
1. Monetary policy
2. Banking incl. shadow-banking
3. Externalities on financial markets; agency problems
3. Corporate Governance and agency problems
1. Management vs shareholders
2. Management vs stakeholders
3. Majority vs minority shareholders
4. Legal rules and procedures and financial development
5. State capitalism – government as an investor
 New and rapidly growing literature
 Applied economic analysis: theoretical and empirical
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Law & Economics Is Getting Even
More Data-Oriented
 Traditional Legal Analysis
 Looking at statutes and their drafting history
 Analyzing leading cases
 Comparing commentators
 Taking into account available practical experience
 Proposing case law or statutory changes
 Recent Developments
 Functional rather than dogmatic analysis
 Taking into account economics, politics and psychology
 Current Focus: Data
 Going beyond biased practical experience
 Big data projects / Econometrics for lawyers?
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How an Empirical Paper Looks Like
1. Motivation (not that easy as one would think)
2. Model (formal or argumentative)
3. Descriptive statistics
 The devil lies in details, such as in the quantiles and correlations
4. Regressions
 Dependent and independent variables
 Statistical significance
 Correlation and causation ( Angrist & Pischke 2008)
The sky is the limit as regards the methods
5. Conclusions
 Footnotes and Appendices
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Introductory Articles / Primers
 Encyclopedia of Law & Economics
 Publishers Edward Elgar and the University of Ghent
 General Editors: Boudewijn Bouckaert and Gerrit De Geest
 http://encyclo.findlaw.com/
 Newman, Peter (ed.) (1998). The New Palgrave Dictionary
of Economics and the Law. London: Macmillan.
 Journal of Economic Literature (JEL) codes
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/ K: Law and Economics
/ / K0: General
/ / K1: Basic Areas of Law
/ / K2: Regulation and Business Law
/ / K3: Other Substantive Areas of Law
/ / K4: Legal Procedure, the Legal System, and Illegal Behavior
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How to Search for Published Papers
 EconLit: Database of published articles in economics
 [Access UZH: Homepage ZB (www.zb.uzh.ch) / Recherche /
Datenbanken / Alphabetische Liste / E / Econlit / Start]
 [Access ETH: Homepage ETH Bibliothek Datenbanken
(http://http://www.library.ethz.ch/Ressourcen/Datenbanken) / E /
Econlit ]
 JSTOR: Full-text archive of important journals in all fields
until around 2002
 [Access: www.jstor.org]
 Access: University/ETH computer or proxy-server / VPN
 http://scholar.google.com
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How to Search for Working Papers
 SSRN: Database of (unpublished) working papers in
economics and law
 [Access: www.ssrn.com]
 Law and Economics (JEL code “K”) @ ideas.repec.org
 [Access: http://ideas.repec.org/j/K.html]
 German Working Papers in Law and Economics
 [Access: http://ideas.repec.org/s/bep/dewple.html]
 Homepages of relevant scholars
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Important Economics and Finance
Journals
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American Economic Review
Quarterly Journal of Economics
Journal of Political Economy
Econometrica
Journal of Economic Literature
Journal of Economic Perspectives
Journal of Public Economics
 Journal of Finance
 Review of Financial Studies
 Journal of Financial Economics
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Important Law Journals
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Chicago Law Review
Columbia Law Review
European Business Organization Law Review
Harvard Law Review
New York University Law Review
Stanford Law Review
The Yale Law Journal
University of Pennsylvania Law Review
Virginia Law Review
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Law and Economics Journals
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Journal of Law and Economics
Journal of Legal Studies
Journal of Empirical Legal Studies
Journal of Law, Economics and Organization
Review of Law and Economics
International Review of Law and Economics
American Law and Economics Review
European Journal of Law and Economics
Supreme Court Economic Review
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SOME THINGS USEFUL TO KNOW TO BEST
PROFIT BY THIS COURSE
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Mastering the economic way of thinking is
quintessential for a proper L&F reasoning
Economic Reasoning for Dummies
• Demand and supply always matter, also beyond markets!
• If something becomes cheaper…
 …more is demanded and less is produced!
• Always think in terms of alternatives and (relative) prices
 The importance of (relative) scarcity
• Methodological individualism: only individuals act
• Utility and resources: ends and means
 Preferences are stable, constraints are not
• You always need two arguments when explaining social
phenomena from an economic perspective:
 (1) to want + (2) to can
• Ceteris paribus and marginal thinking
 Incentives matter, especially on the margin!
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The Role Played by Institutions
• Nirvana approach versus
• Comparative institution approach (Demsetz 1969)
• Institutions systematically shape human behaviour
(Frey 1999)
 decision making systems;
 norms, traditions, and other behavioural rules;
 organisations
Of course, some corporate finance could help
you in framing and understanding many topics
dealt with in Law & Finance
Accounting and Corporate Finance
•
General accounting concepts
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Balance sheet: assets and liabilities
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Income statement (aka P&L): costs
and revenues
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Financing through liabilities or equity?
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Cost of capital, risk-adjustments, fixedincome
Equity
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Concept and function of equity capital
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Kinds of equity positions
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Management vs. shareholders
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Measuring corporate equity
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Majority vs. minority shareholders
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Corporate finance
• External finance
Intertemporal decisions and
financial mathematics
•
Agency problems
•
Legal aspects
•
Bankruptcy, creditors
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Compounding and discounting
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Annuities
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Dividends vs. interest payments
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Discounted cash flows
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Group structures
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International aspects
Risk aversion
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•
Taxes
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Financial Markets and Institutions
 Financial intermediation
 Banks
 Shadow-banks
 Investment classes to know
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Shares, equities, stocks
Bonds
REIT
Commodities
Options (put, call,
European, American)
 Futures and forwards
 SWAP
 Securitisation vehicles
 Markets for repos
 Mortgage companies
 Financial markets
 Security exchanges
 OTC… over the counter
 Banks transform
 Maturity of loans
 Amounts of loans (pooling)
 Users of loans
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Altogether, a first example: Law & Banking
Banks have a past.
Do they have a future?
• Banks  link between creditors and borrowers 
transformation function (maturity, amounts, subjects)
• Past and present
•
Emergence during the Renaissance
•
From commercial to investment banking
•
Moving to asset/wealth management
• The future of banking
•
Markets as an alternative to banking
•
What about P2P and its implications?
•
Is an increasing regulation of banking useful or harmful?
 Ask it another way: what consequences are to be
expected? Think in terms of alternatives!
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The future of banking… one step
further: the role played by politicians
• Recall: Econ for dummies!
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Incentives matter
Only individuals act
Always two co-existing arguments: (1) want + (2) can
• Politicians pay attention (i.e. what they naturally want)
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Pro-active role: Making themselves known
Reactive role: Responding to their constituency’s needs
• What politicians do best (i.e. what they naturally can)
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Regulate and subsidize
• Role of interest groups
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Barriers to entry and expansion
Access to state aid
Asymmetric influence
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Corporate Governance
What is Corporate Governance?
Corporate governance is defined as
 “the determination of the broad uses to which
organizational resources will be deployed and
 the resolution of conflicts among the myriad of
participants in organizations”
Daily, Dalton & Cannella (2003)
 Corporate Governance as a kind of corporate constitution
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Firms, rather than governments,
shape the own corporate governance
1. Important that corporations choose the corporate
governance regime that best fits the context they operate
in.
2. It is more than plausible that the same specific contexts
within which some firms operate do not massively differ
among countries.
==> Similar firms in different countries should, all things being
equal, basically implement similar corporate governances.
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Corporate Governance
Two Important Views
1. Transaction cost view: Ronald Coase (1937)
When do firms produce to their own needs (integrate
backward, forward, or laterally) and when do they
procure in the market?
2. Agency theory: Adolf Berle and Gardiner Means (1932)
They observed that ownership and control in the large
corporation were often separated and inquired whether
this had organizational and public-policy ramifications.
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The appearance of the "classic
capitalist firm" and its financing was
explicated by
1. Armen A. Alchian and Harold Demsetz. "Production,
Information Costs, and Economic Organization." American
Economic Review (December 1972), 777-95.
2. Michael Jensen and William Meckling. "Theory of the
Firm: Managerial Behavior, Agency Costs, and Capital
Structure." Journal of Financial Economics 3 (October
1976), 305-60.
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Law & Finance in the Narrow Sense
(La Porta, Lopez-de-Silanes, Schleifer)
International Varieties in Corporate
Governance
 Law and Finance (La Porta, Lopez-de-Silanes & Schleifer
1998) as well as the
 comparative corporate governance literature
(e.g. Mork 2005)
 mostly deal with international comparisons as the source
of variety in corporate governance.
 Indeed, the way countries regulate firms varies a lot
 powers of shareholders (Hansmann and Kraakman 2004)
 degree of co-determination of employees (European Trade Union
Institute, www.worker-participation.eu).
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Varieties of Capitalism
 Substantial varieties of capitalism (Hall and Soskice 2001)
 Within European Community
 each country wants to defend its own comparative institutional
advantages (Fioretos 2001)
 Rhine model versus Anglo-Saxon model (e.g. Vistol 2001 or Wood
2001),
 German model versus French model (e.g. Culpepper 2001)
 World-wide comparisons that include countries such as the
USA, China, or Japan also stress the many extant
differences in corporate governance
 See e.g. Pinto & Visentini (1998) for an extensive comparison of
corporate governance in publicly held corporations.
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Explanations for Worldwide
Differences in Corporate Governance
1. Historical path dependencies (Mork 2005)
2. Different industrial policies (Tate 2001)
3. Legal origins (La Porta, Lopez-de-Silanes, Schleifer &
Vishny 1997)
4. Political determinants of corporate governance (Roe
2003).
 Because of the ever changing circumstances, it is even
proposed that firms draft very general charters that do not
deviate from the default terms of state corporation law
(Hansmann 2006).
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SUMMING UP
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Today’s Agenda
1. An “Introduction to Law & Finance”
1. What is Law & Finance?
2. Some useful resources (Journals, URLs,…)
2. A few things to know
1.
2.
3.
4.
5.
6.
22 Sept. 2015
Economic reasoning for dummies
Accounting and corporate finance
Financial markets institutions
Law & Banking
A short introduction to corporate governance
Law & Finance in the narrow sense
Introduction to Law and Finance
35
Economic Reasoning for Dummies
• Demand and supply always matter, also beyond markets!
• If something becomes cheaper…
 …more is demanded and less is produced!
• Always think in terms of alternatives and (relative) prices
 The importance of (relative) scarcity
• Methodological individualism: only individuals act
• Utility and resources: ends and means
 Preferences are stable, constraints are not
• You always need two arguments when explaining social
phenomena from an economic perspective:
 (1) to want + (2) to can
• Ceteris paribus and marginal thinking
 Incentives matter, especially on the margin!
22 Sept. 2015
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BY THE END OF THIS TERM, YOU WILL LOOK
AT THE WORLD AROUND YOU THROUGH NEW
LENSES.
ENJOY THIS JOURNEY IN LAW & FINANCE!
WELCOME ON BOARD!
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