The role of bank governance: evidence from market discipline, capital structure, ownership structure, risk taking and political connection

Banks, like other business firms, must attract outside funding within competitive capital markets, must face competition in product, and must deal with corporate governance issues deriving from agency problems and asymmetric information. Corporate governance in banks is unique compared to non-financial firms, with factors such as higher opaqueness, heavy regulations, and government interventions, which thus require distinct analysis. Although it is well recognised that corporate governance can affect bank value, in this thesis I combine external and internal corporate governances by considering board composition and ownership structure, as well as trading behaviour on stock markets. The main objective of this thesis is to study empirically the impact of various governance mechanisms on bank stability, in terms of capital strategy, risk-taking and performance. The finding is that there exists a significantly positive relationship between market discipline and bank capital structure. In addition, over-performing banks attract a high level of informed trading, which in turn leads to a higher level of capital buffer held by a bank. Also, banks with strong corporate governance are associated with higher risk-taking. More specifically, banks that have an intermediate board size, a separation between the CEO and the chairman of board, and are audited by the Big Four audit firm, are likely to take higher risks. Banks with more state shareholders also tend to have poorer performances, and banks with higher domestic and private shareholders generally operate more profitably. Ownership type diversity is associated with better bank performance, while banks with concentrated ownership are worse performing. Finally, banks with political connections distribute more credit than nonpolitically connected banks. The results have certain policy implications for understanding the role of governance in affecting bank operations that, in turn, could improve bank prudency and assist the design of an enhanced regulation framework. Regulators should reduce protection, improve banks’ asset quality, and strengthen market discipline.