Our main task is to study the effect of corporate governance on the market liquidity of listed companies' stocks. We establish a theoretical model that contains the heterogeneity of investors' beliefs to explain the mechanisms by which corporate governance improves liquidity of the corporate stocks. In this process we found that the existence of noise traders who are semi-informed in the market is an important condition for corporate governance to have the effect of improving liquidity of the stocks. We further find that the strength of this effect is affected by the degree of noise traders' participation in market transactions. Our model reveals that corporate governance and the degree of noise traders' participation in transactions have a synergistic effect on improving the liquidity of the stocks.
1. Introduction Shleifer and Vishny (1997) define that the purpose of corporate governance is a series of constraints and institutional arrangements formulated to solve the two types of agency conflicts and protect the interests of investors.
The liquidity of stocks studied in most of the existing literature refers to the liquidity of stocks in the secondary market. The liquidity that we focus on in this paper is also the li quidity of stocks in the secondary market. According to Harris (1990), a security is said t o have higher liquidity if it can be sold in large quantities at lower transaction costs in a s hort period of time and its market price is less affected. The level of stock market liquidit y determines the level of utility investors get in their investments, so it also affects their i nvestment decisions. Therefore, Securities liquidity has been a research hotspot in the fin ancial market field, and a large number of related classic literatures have emerged, such as: Amihud (1986Amihud ( , 2002)), Pastor and Stambaugh (2003), Acharya and Pedersen (2005), Liu (2006), Amihud and Hameed et al. (2015), etc. If an investor holds a security that h as lower liquidity, he has to sell it at a price significantly lower than the true value of the security when for some reason he needs to sell it in large quantities within a short period of time, as will bring him a greater loss. For securities with better liquidity, the holder ca n sell a larger number of such securities at a price close to its fair value in a short period of time, without causing a significant decline in the price of such securities. When the pr ospects of the securities market are not optimistic and investors are not confident, a larg e number of securities will be sold off, which will cause the prices of various securities in the market to decrease. When the prospects of the securities market are not optimistic a nd investors are not confident, a large number of securities will be sold off, which will ca use the prices of various securities in the market to fall. But at this time, the prices of se curities with higher liquidity tend to have a slighter decrease, so such securities play a rol e in stabilizing the market in decline.
Since 2002, more and more literature has begun to focus on the relationship between corporate governance and micro characteristics that the corporate stocks exhibit in mark et transactions. Gompers 2011), etc. find that the return on the stocks of companies with better protection of investor rights has a higher premium and the co Jianhao Su, 201720030@mail.sdu.edu.cn, school of economics, Shandong University. mpany’s market value is also higher. The main topic of this paper is to study the impact of corporate governance on the market liquidity of listed companies’ stocks. Using empiri cal tests, Bacidore, Sofianos (2002) and Chung (2006) show that stocks of the companie s in a more stringent external governance environment exhibit higher liquidity. Chen and Chung (2007), Chung and Elder et al. (2010), Li et al. (2012), Prommin et al. (2014), Ta ng and Wang (2015) use the data about listed companies in different countries to conduc t their empirical examinations respectively, but they get an almost consistent conclusion t hat there is a significant positive correlation between the quality of a company’s internal governance and the level of the liquidity of its stocks. Existing literature focuses on seeki ng empirical evidence that there is a correlation between corporate governance and liqui dity of corporate stocks, while in this paper we mainly analyze the conditions and mecha nisms by which corporate governance affects the liquidity of corporate stocks. The issue studied in this paper lies in the intersection of the two fields of securities investment and corporate governance.
In the analysis of this paper, a company’s executives and its controlling shareholders w ho can control the company in a large degree are considered as a whole that is called as the controlling community of the company. Compared with the controlling community, o utside investors’ controlling power over the company is weak and they have less informat ion about the company. Controlling community can expropriate the funds of the company or the interests of minority shareholders. This behavior is usually called as expropriation, and the value that the controlling community extracts from the company and the minorit y shareholders is defined as agency costs. Therefore the benefits that outside investors c an obtain from each share they hold tend to be less than the benefits that the controlling community can gain from each share they hold. In the following, we refer to the actual value that each share of the company brings for outside investors as the outside investor’ s value.
In order to analyze the mechanisms by which corporate governance affects the liquidit y of corporate stocks, we construct a model framework that contains the h
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