Property rights and the cost of capital

• Published in: European journal of law and economics 2015-06, Vol.39 (3), p.523-537
• Main Authors: Bjuggren, Per-Olof, Eklund, Johan E.
• Format: Article
• Language: English
• Subjects: Analysis; Asset pricing; Capital assets; Capital costs; Capital markets; CAPM; Commercial Law; Cost of capital; Discount rates; Economics; Economics and Finance; Enforcement; European Integration; Interest rates; International; International business; International capital market; International financial markets; Investment; Investments; Investors; Law and Economics; Net present value; Portfolio management; Property rights; Public Finance; Risk premiums; Securities markets; Studies
• ISSN: 0929-1261; 1572-9990; 1572-9990; 1572-9346
• DOI: 10.1007/s10657-013-9396-x

In countries with more secure property rights, the cost of capital is lower, suggesting higher investment rates. Using data from 49 countries we extend the conventional capital-asset pricing model (CAPM) to include a property rights risk-factor. In the conventional CAPM model only a single risk factor— systemic risk —is considered. However, when using a world market portfolio to estimate systemic risk in national portfolios, little of the required rate of return is explained in less developed as compared to more developed countries. Adding a factor representing institutional risk increases predictive power substantially. Further, we find that property rights affect the transmission of information, which suggests that markets price information differently, and allocate resources less efficiently, in countries with less secure property rights. We find that the CAPM model performs better in countries with more secure property rights.