Corporate governance and product market competition: evidence from import tariff reductions

Using large reductions in import tariffs as an exogenous shock to the competitive environment, this paper examines how an increase in foreign competition affects the importance of corporate governance. Consistent with prior studies, weak governance is associated with lower firm value, lower operating performance, lower labor productivity, higher capital expenditures, higher non-production expenses, and higher wages in the absence of increased competition. However, the differences between weak and strong governance firms along each of these dimensions are reduced or eliminated after a tariff cut. The effects are concentrated among firms in previously noncompetitive industries, defined as having sales concentration above the median or import penetration below the median in the year before the tariff cut. These conclusions are supported through the use of multiple alternative measures of operating performance and corporate governance. Altogether, the evidence indicates that an increase in competition can mitigate agency costs and serve as a substitute for traditional corporate governance mechanisms.