Differences in mentality may well play a role. But it is important to distinguish between
differences in mentality as such and differences in behavior stemming from adaptations to the
legal and institutional environment.45
Legal and Institutional Impediments. To the extent that private contracts cannot substitute for
legal rules, the limited use of the stock market may be the result of insufficient legal rules (La
Porta et al., 1997, 1998). Weak disclosure requirements, lack of transparency as well as missing
or unenforceable minority protection and insider regulation may increase the costs of using the
stock market due to information and incentive problems faced by outsiders.46 Owners may view
the costs of disclosure and transparency as an obstacle to listing their firm because they are not
strict enough to overcome these problems. Germany has only recently adopted some stricter
rules—similar to those in the UK and the US—in the course of EU harmonization. For example,
the 2nd Financial Market Promotion Act of 1995 banned insider trading and introduced tighter
disclosure rules.47
In addition, with eight stock exchanges under the supervision of the individual states and
no central clearance and settlement system the German stock market was rather fragmented until
the 1990s (Story and Walter, 1997, p. 176). All these features of the German stock exchange
system reduced the advantage of a listing because they reduce liquidity and increase the costs of
trading. Centralized coordination of trading activities only started with the foundation of the
Deutsche Borse AG in January 1993.
The literature also puts forward the German Stock Corporation Act (Aktiengesetz) as an
additional impediment to the wider use of the stock market. If firms want to list on the stock
market, they have to become an Aktiengesellschaft (AG, public limited company). However,
most firms, which are not listed, choose to conduct business as a Gesellschaft mit beschrankter
Haftung (GmbH, limited liability company). It is argued that the legal requirements for an AG are
45 For example, Becker and Hellmann (2002), argue that one of the key problems that the venture capital industry
faced in Germany was the lack of high quality entrepreneurs. However, high quality people go to where the
money is. It is exactly the prospect of earning huge profits through a successful IPO that motivates talented
people in the US to start their own business, seeking venture financing. In addition, as argued in Becker and
Hellmann (2002), in the 1970s and 1980s, public opinion towards entrepreneurs was rather hostile in Germany.
46 Bhattacharya and Daouk (2002) find that the costs of equity are lower if insider-trading laws are enforced. Leuz
and Verrecchia (2000) document a significant relationship between the choice of accounting standard (and
therefore the level of disclosure) and a firm’s cost of capital.
47 See Leuz and Wüstemann (2003) on legal and accounting issues as well as recent regulatory developments.
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