Law, Corporate Governance, and Corporate Scandal in an Emerging Economy: Insights from China

Abstract

There is an astonishingly high incidence of scandal among firms in the Chinese emerging market. This paper empirically examines whether certain corporate governance mechanisms are related to the probability of a firm being associated with corporate scandal. Using a sample of Chinese listed firms convicted for fraud, we find that firm ownership is related to the probability of a firm committing fraud, whereas other corporate governance characteristics such as board size, board independence, and institutional ownership are not. These findings suggest that in general governance mechanisms have not helped avoid serious corporate scandals in China. Further analysis indicates that the level of development of a country's legal system is related to the probability of a firm committing fraud. Together, our results suggest that without effective legal enforcement, corporate governance mechanisms will not be able to protect minority shareholders and facilitate stock market development in emerging markets.