Finance and Growth: The Legal and Regulatory Implications of the Role of the Public Equity Market in the United States

Abstract

The important study of the relationship between finance and economic growth has exploded over the past two decades. One of the most significant open questions is the role of the public equity market in stimulating growth and the channels it follows if it does. This paper examines that question from an economic, legal, and historical perspective, especially with regard to its regulatory and corporate governance implications. The US market is my focus. In contrast to most studies, I follow both economic history and the actual flow of funds in addition to empirics and theory to conclude that the public equity market’s contribution to US economic growth is highly limited to the small but important contemporary role it plays in providing exit opportunities for entrepreneurs and venture capitalists. Nevertheless, there is a serious question as to the real economic growth benefit of easy exit. In particular, exit by merger may well be more macro-economically efficient than exit by IPO. I further tentatively conclude that the modern behavior of the US public equity market may be damaging to the long-term sustainability of American corporate capitalism and to long-term social welfare – in particular the market’s significant role in increasing economic inequality. Thus an overall appraisal of the market’s benefits and costs in the broader context of economic growth and economic inequality is long overdue. Important questions for corporate governance, financial regulation, and the structure of market institutions are raised. Along the way, I will have reason to question the continuing viability of the Miller-Modigliani irrelevance theorem.