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We investigate how investor protection, government quality, and contract enforcement affect risk taking and performance of insurance companies from around the world. We find that better investor protection results in less risk taking, as do higher quality government and greater contract enforceability. However, we find only limited evidence that these factors influence firm performance. We conclude that better overall operating environments result in less risk taking by insurers without the concomitant decline in performance. These results imply that better investor protection environments benefit policyholders and outside stockholders by preventing corporate insiders from expropriating wealth from policyholders and outside stockholders.

Abstract:As is evident from recent changes in NYSE and NASDAQ listing requirements, board independence is assumed to be an important and effective governance mechanism. However, the empirical evidence regarding the value of board independence is mixed. We examine board member resignation announcements and their perceived importance in the context of firms' existing governance structures. We find that outside director resignations appear to send negative signals to market participants. However, this market reaction is less negative when the board is more independent before the departure and when institutional ownership is high, but is more negative for higher levels of officer and director ownership and CEO incentive compensation.

Prior research contends that weak legal regimes discourage lender enforcement of contracts by making it either costly or ineffective. However, Diamond observes that this lender passivity can be overcome by structuring debt as a short-term loan. His argument is that an arrival of bad news in the presence of short-term debt can result in externalities that will trigger a run on the firm and that this in turn creates ex ante incentives for lenders to enforce their contracts. We examine whether short-term debt creates an incentive for borrowers to delay the recognition of bad news through earnings management. Using a sample of firm-level data from 33 countries over a 10-year period, we find that short-term debt induces greater earnings management. This impact of short-term debt is especially greater in countries with weak legal regimes. This evidence is consistent with the hypothesis that borrowers will manage earnings to circumvent lender enforcement. (c) 2008 by The University of Chicago. All rights reserved..