How Do Legal Rules Evolve? Evidence from a Cross-Country Comparison of Shareholder, Creditor and Worker Protection

Abstract

Much attention has been devoted in recent literature to the claim that a country's "legal origin" may make a difference to its pattern of financial development and more generally to its economic growth path. Proponents of this view assert that the "family" within which a country's legal system originated—be it common law, or one of the varieties of civil law—has a significant impact upon the quality of its legal protection of shareholders, which in turn impacts upon economic growth, through the channel of firms' access to external finance. Complementary studies of creditors' rights and labor regulation have buttressed the core claim that different legal families have different dynamic properties. Specifically, common law systems are thought to be better able to respond to the changing needs of a market economy than are civilian systems. This literature has, however, largely been based upon cross-sectional studies of the quality of corporate, insolvency, and labor law at particular points in the late 1990s. In this paper, we report findings based on newly constructed indices which track legal change over time in the areas of shareholder, creditor, and worker protection. The indices cover five systems for the period 1970-2005: three "parent" systems, the United Kingdom, France, and Germany; the world's most developed economy, the United States; and its largest democracy, India. The results cast doubt on the legal origin hypothesis in so far as they show that civil law systems have seen substantial increases in shareholder protection over the period in question. The pattern of change differs depending on the area which is being examined, with the law on creditor and worker protection demonstrating more divergence and heterogeneity than that relating to shareholders. The results for worker protection are more consistent with the legal origin claim than in the other two cases, but this overall result conceals significant diversity within the two "legal families," with different countries relying on different institutional mechanisms to regulate labor. Until the late 1980s, the law of the five countries was diverging, but in the last ten to fifteen years there has been some convergence, particularly in relation to shareholder protection.