Introduction
Corporate Governance Systems are capable of reshaping investment policies and decisions in corporations where analysis of various types of investments are multifaceted and it is complicated to determine how returns from investments are distributed. The US capital market is often called ‘market-centered for it is well developed and more significant than any bank intermediation. Corporate ownership is highly fragmented and private households constitute the largest group of shareholders, owning about three-quarters of all US stocks.
Despite so many efforts in US stock and bond markets, following German counterparts many US corporations failed to create internal capital markets by adopting a multidivisional structure. Contrary to German multidivisional corporations, however, US multinationals became the target of leveraged buyouts. During the 1980s a large number of US corporations were restructured as a result of hostile takeovers. German and U.S companies operate within their own financial systems. Germany’s financial system is dominated by large universal banks where the U.S corporate system is composed of markets for corporate stocks and corporate bonds.
Market-Centered Corporate Governance
The United States Corporate Governance system is backed by a stock-market-centered capital market. Unlike Germany who rests on a bank-centered capital market, the U.S market is escorted by a limited role of financial institutions in Corporate Governance.
There is also competition not only between products but among governance systems which many U.S writers have pointed that the bank-centered capital markets of Germany allow executives to manage in the long run while U.S. managers invest shortsightedly because of the reason they fear and focus on quarter to quarter earnings growth. In fact the reason they provide for not investing sharply is the uncertain stock market’s fickleness that can be enforced by the market for corporate control.
The historical perspective tells us that market control over the allocation of US corporate resources is not new for most of the century salaried personnel has exercised authoritative control over corporate resource allocation. Decades followed after World War II made the US the world’s most productive economy were unlike the devastative effects in retarding the relative performance of other leading industrial economies, US enterprises retained a considerable lead in most industrial sectors.
In the post-World War II decades, the U.S not only held dominant positions in capital goods industries such as steel, machine tools, and chemicals but was also a leader in consumer goods industries such as automobiles, consumer electronics, and pharmaceuticals. The post-war leadership of US industry was not, however, confined to the mass-production industries and by 1965 US enterprises controlled 50 percent of world market share in aircraft and parts, 43 percent in guided missiles and aerospace, 36 percent in professional and scientific instruments, 36 percent in office, computing, and accounting machinery, and 31 percent in engines, turbines, and parts (Sullivan, 2001, p. 105).
The leadership of US corporate enterprises in mass-production industries had been built up from the late nineteenth century and the central elements of the system of governance that shaped the allocation of corporate resources in the post-war period bore a strong resemblance to their pre-war counterparts (Sullivan, 2001, p. 105).
In the quarter-century after the war, however, the corporate control of many leading US mass producers evolved in ways that placed considerable internal pressures on the viability of the system of managerial control as the institutional foundation for industrial innovation. In particular, if we compare the market efficiency of the U.S economy with Germany or other European nations, the inflexible management-labor division in these enterprises is evident, as it is broadening the barriers between senior executives and managerial organization, thereby weakening the internal capacity of many U.S corporate enterprises to generate innovation.
Market-centered Corporate Governance in industrial securities evolved in the U.S not only for the reason that effects the separation of stock ownership from strategic control but because it offered American households liquidity without any commitment. Once the market in industrial securities came into existence, American households were willing to hold shares in publicly traded corporations only because their ‘ownership’ stakes did not entail any commitments of their time, effort, or additional funds to ensure the success of the company (Sullivan, 2001, p. 70).
Despite the advantages of the booming U.S economy which not only helped in sustaining growth, lowering unemployment and lowering inflation, the U.S economy could not manage to cope up with problems like deficit reduction in collaboration with the corporate governance system of the American Model. The serious problem was the nonconverging nature of the National governance system which was more persistent than was expected.
For example, problem arises when it was discovered that Japanese lean production which supported employees expected long-term relationships to suppliers, was unable to match without dramatic changes in U.S. governance institutions. The mistake that American manufacturers made was adopting lean production, but only to fit their governance institutions, rather than adapting their institutions to lean production.
Bank-centered Corporate Governance
German corporate Governance is considered more reliable than that of U.S for it is long-term oriented and emphasizes longer-run strategies. In other words it provides managers the benefit for staying in long-term goals by ignoring short-term stock and accounting profits. On the other hand, the U.S market-centered system is aimed to measure performance solely based on short-term oriented stock prices and accounting reports, this way the U.S market allow managers to invest in projects that provide short-term results clearly observable by one-dimensional stock market investors who have no other source of information (Gilson, May 2000).
German bank-centered system when compared with the U.S system is capital market-orientated where companies finance themselves through the stock exchanges by issuing stocks and bonds, the buyers of which are mostly large institutional investors, pension and investment funds, but also private capitalists whose savings are mostly invested in securities. This capital bank-centered market thinking enhances shareholder value attitudes within the management (Schuster, 2000, p. 4).
In contrast to the shareholder value philosophy, the German philosophy has always concentrated more on a stakeholder approach and this has several reasons. First, and foremost, Germany is known as a bank-orientated corporate culture, where enterprises hold long-standing relations, or even partnerships with the banks that provide their loans and mortgages or other facilities, such as leasing. The refinancing of the bank loans is partly carried out through the capital market but traditionally more through savings and other deposits of the bank customers.
German banks are often considered to have a stake in the company’s equity and therefore possess a strong position in corporate governance. But when compared with other countries except the U.S, the stock market orientation in Germany still uphold much vulnerability. The number of listed companies on the stock exchange is low and as a consequence stock market capitalization is also low. Securitization is not very advanced as it could be and only recently the first asset-backed securities were issued which has not even become a relevant refinancing instrument.
Another consequence of the weak presence of German companies in the capital markets is the absence of hostile takeovers, which in contrast has been a permanent method in the U.S for a long time. German stakeholders exercise strong powers which unnecessarily result in unfriendly takeovers. Example is that of the takeovers that happened between the two German steel mills Krupp and Thyssen and failed at the first attempt because of the opposition of the unions and the workers who would have probably been affected by dismissals (Gilson, May 2000).
German bank-centered influences are the results of the bank unions that serve as union representatives from both outside and inside the company as they are involved in the co-determination of management decisions. This clearly indicates the significance of bank unions in making top-level managerial decisions that concern social and personnel matters in the favor and interest of the banks.
While comparing and contrasting the shareholder value problem in financial institutions particularly banks, the U.S is inclined towards the shareholder value model while Germany follows the stakeholder model. The difference between the shareholder value model and stakeholder value approach is:
- U.S follows a specialized system of banks with more emphasis on capital market orientation whereas Germany follows a universal approach where public sector possesses big share and bank intermediation remains a main characteristic of German banking.
- U.S important shareholders consist of institutional investors whereas German shareholders are mostly banks and private investors.
- Other characteristics include U.S. bank’s transactions, competition, unfriendly takeovers, and hire and fire mentality while German banks are considered to develop relationships, cooperation, bank assisted mergers and co determination strategies.
The banking systems of both countries differ in many ways. The American system is a so-called specialized banking system that was split up by the Glass-Steagall Act after the great world depression in 1931 into commercial and investment banks. The commercial banks specialized in deposit-taking, granting of loans and payment transactions while the investment bankers carried out all kinds of securities and stock exchange business. Despite all the efforts to pass the Glass Steagall Act, it remained unsuccessful due to the cultural change even when the structures no longer seemed to be competitive in globalized capital markets.
Germany and many other European countries balance stakeholder claims in a different manner than the USA for they have varying degrees of employee participation in company management through workers’ councils or board representatives.
Another aspect that distinguishes U.S approach from the German is the degree of concentration of ownership and control of sources of capital. Schuster (2000) mentions the example of German debt, is dominated by institutional rather than market sources and debt provides about 83 percent of all external capital. This privately placed debt is largely held by banks. In addition, although German banks only own about 8 percent of all equity shares for their own accounts, they administer approximately 50 percent of voting rights, giving them a substantial control interest (Schuster, 2000, p. 45).
According to Copeland (Schuster, 2000, p. 46) there are two differences between the U.S and German capital markets. The first claims that the U.S capital markets are more efficient because it arises from the need to provide much more public information, with capital flowing much quicker to more productive uses. Second, favors German market as management is less likely to focus on value creation because the market price of shares is much less likely to reflect good information.
This is the reason why market price of shares is ignored and not considered to be the best indicator of management performance. Therefore in order to measure any economy, the best measurements are those that reflect gross domestic product (GDP), productivity, shareholder value creation and job creation, this way the US economy performs much better than Germany.
With respect to capital allocation within immature industries, short-term investment perspectives are useless. Since long-term investment decisions are based primarily on common and insider knowledge under relational regulation, the initial benefits are offset by high misallocation costs. This theoretical result supports the notion that relational capital markets are less effective in allocating capital within immature industries than are neoclassical capital markets, and in fact do not possess substantial allocative advantages over holding companies or multidivisional organizations (Dietl, 1998, p. 106).
There is a need to refocus on capital allocation within mature industries under relational regulation so as to improve the performance of relational capital markets by the presence of privileged universal banks. This would help the U.S market to get privilege by the universal banks in assuring long-term investment decisions that today the U.S market dearth. It would also create board representation by bank executives that important knowledge links which provide the corporations involved with otherwise inaccessible investment knowledge. This way the privileged universal banks may become major shareholders themselves by acquiring large portions of a corporation’s outstanding equity.
References
Dietl M. Helmut, (1998) Capital Markets and Corporate Governance in Japan, Germany, and the United States: Organizational Response to Market Inefficiencies: Routledge. Place of Publication: New York.
Gilson Robert, 2000. Web.
Schuster Leo, (2000) Shareholder Value Management in Banks: St. Martin’s Press: New York.
Sullivan O’ Mary, (2001) Contests for Corporate Control: Corporate Governance and Economic Performance in the United States and Germany: Oxford University Press: Oxford.