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Culture and Corporate Law Reform: a Case Study of Brazil

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Culture and Corporate Law Reform: a Case Study of Brazil CULTURE AND CORPORATE LAW REFORM: A CASE STUDY OF BRAZIL ERICA GORGA* ABSTRACT The Brazilian capital markets are insufficient to provide com- panies with adequate financing. A 2001 reform in the Brazilian Corporate Law sought to strengthen Brazil's capital markets by providing stronger investor protection. Many of these latest re- forms, however, turn out to be merely palliative, because control- ling shareholders were able to capture the legislation in its crucial aspects. In this Article, I argue that public choice theory does not offer a comprehensive explanation of the legal reform outcome in the face of the particulars of the Brazilian institutional environ- ment. The objective of the research is to develop an alternative ap- proach to the public choice model by building upon Douglass North's work. In this approach, culture is incorporated into the economic model to account for divergent outcomes of similar pro- . Ph.D. in Commercial Law, University of Sao Paulo, Brazil. Professor of Law, Fundaqao Getulio Vargas Law School at Sao Paulo. Former Lecturer, Uni- versity of Texas School of Law at Austin, and Research Fellow of the Center for Law, Business and Economics, University of Texas School of Law. Former Visit- ing Scholar at Stanford Law School. I am greatly indebted to Professors Bernard Black and Rachel Sztajn for their invaluable suggestions throughout my work on this project. I am grateful to Pro- fessors Michael Klausner, A. Gledson de Carvalho, Michael Halberstam and Lee Alston for helpful comments and conversations. I am thankful to the participants of the 20th Conference of the European Association of Law and Economics, of the Stanford's John M. Olin Law and Economics "free lunch" seminar, of the Euro- pean School for New Institutional Economics held in Carg se, and of the Ronald Coase Institute Workshop on Institutional Analysis held at Rio de Janeiro for their comments. I thank the participants of seminars at the Mercatus Center of George Mason University, at the Corporate Governance Group of FEA-USP and at Apimec for their comments. I am thankful to Professors A. Mitchell Polinsky, Decio Zylbersztajn, Haroldo M. D. Verqosa and to Randy Mont-Reynaud for their support to my work. I thank Jerome DeHerrera for carefully reviewing the manu- script. I am grateful to FAPESP (Foundation for the Support of Research of the State of Sao Paulo) and to the Stanford John M. Olin Program in Law and Eco- nomics for financial support of this research. Published by Penn Law: Legal Scholarship Repository, 2014 804 U. Pa. J. Int'l Econ. L. [Vol. 27:3 posed legal reforms. I demonstrate how culture can either rein- force or attenuate rent-seeking interests. In the Brazilian case, I analyze how rent-seeking interests combine with cultural values to hinder institutional change. The aim of the Article is to examine the economic impact of incentives on the Brazilian Corporate Law Reform, and to explore how culture can constrain corporate gov- ernance and economic performance. TABLE OF CONTENTS 1. IN TRO DUCTION ............................................................................805 2. A CASE STUDY OF CORPORATE LAW REFORM IN BRAZIL ........813 2.1. CorporateGovernance Environment in Brazil...................... 817 2.2. Main Changes of the Legal Reform ........................................828 2.3. Analysis of the Reform Impact ..............................................838 2.3.1. Preferred stocks ......................................................838 2.3.2. Takeout rights ........................................................847 2.3.3. Shareholder agreements .........................................851 2.3.4. Summary conclusions ..........................................856 3. WHAT CAN EXPLAIN THE REFORM FAILURE? ..........................857 3.1. A Theoretical Framework to Evaluate the Incentives That Matterfor Developing Strong Capital Markets ....................857 3.1.1. The law matters hypothesis ...................................857 3.1.2. The informal norms and culture hypothesis ..........860 3.1.3. The political hypothesis .........................................863 3.1.4. Path dependence and public choice hypothesis ......865 3.2. Culture as a Key Variable to Explain Institutional C hange .................................................................................866 3.2.1. The insufficiency of the public choice argu- ment: the case of securities reform in the United States and in Brazil .................................869 3.3. The Brazilian Institutional Evolution ...................................879 3.3.1. Historical roots and formation of the ideology: "patrimonial"and "personal relations".............. 880 3.3.2. The main role of the government: the father of the fathers offam ily .............................................890 3.3.3. The positivist view of the legal elites .....................894 3.4. How Do These Brazilian Hallmarks Restrain the Devel- opment of Capital Markets? ..................................................896 3.5. Mhy Culture is Path Dependent ...........................................900 4. CONCLUDING REMARKS .............................................................903 5. R EFEREN CES .................................................................................904 https://scholarship.law.upenn.edu/jil/vol27/iss3/4 2006] CULTURE & CORPORATE LAW REFORM: BRAZIL The performance of economies is a consequence of the in- centive structures put into place; that is, the institutional framework of the polity and economy. These are in turn a function of the shared mental models and ideologies of the actors.' Arthur T. Denzau & Douglass C. North The gradual development of informal norms of behavior that have become deeply imbedded in the society provides the stable underpinning to the adaptive efficiency charac- terizing the western economies with a long history of growth. We do not know how to create such conditions in 2 transition or third world economies. Douglass C. North 1. INTRODUCTION In recent years researchers have been investigating which insti- tutional conditions enhance the performance of national capital markets. The role of a country's law in this process has been the subject of intense discussion in the law and economics literature. Rafael La Porta, Florencio Lopez-de-Silanes, Andrei Shleifer and Robert Vishny ("LLSV") have argued that minority shareholder protections, and in particular formal shareholder protection laws (including appropriate levels of enforcement), are the key factor in the development of capital markets.3 Subsequent theories have contested this thesis. However, the following questions have not been properly addressed. How can countries succeed in creating 1 Arthur T. Denzau & Douglass C. North, Shared Mental Models: Ideologies and Institutions 15 (Econ. Working Paper Archive at WUSTL, 1993), available at 9 3 9 00 3 http://econpapers.repec.org/paper/wpawuwpeh/ 0 .htm. 2 Douglass C. North, Some Fundamental Puzzles in Economic His- tory/Development 10 (Econ. Working Paper Archive at WUSTL, 1995), available at 9 9 00 http://econpapers.repec.org/paper/wpawuwpeh/ 50 1.htm. 3 See generally Rafael La Porta, Florencio Lopez-de-Silanes, Andrei Shleifer & Robert Vishny, Investor Protection and CorporateGovernance, 58 J. FIN. ECON. 3 (2000) (claiming that corporate governance is better understood through its legal deter- minants). Published by Penn Law: Legal Scholarship Repository, 2014 806 U. Pa. J. Int'l Econ. L. [Vol. 27:3 these "capital markets augmenting" laws? Most importantly, how can these countries assure the adequate enforcement of these laws? Scholars have recently argued that law enforcement is a better predictor of equity and credit markets development than the law on the books itself.4 Nevertheless, in spite of the principal role played by enforcement, it is worthwhile to remark that, especially for civil law countries, the question of how to create good law on the books is pivotal. In most cases, it is impossible for a civil law country to enforce something that is not a legal rule on the books. Consequently, in civil law countries, the proper enforcement of laws requires the passing of proper legislation. Creating efficient laws, however, is not an easy task. Accord- ing to public choice scholars, interest groups who rationally pursue their own utility maximization will engage in lobbying efforts en- couraging the enactment of rent-seeking laws in their favor.5 Hence, institutional change that promotes efficiency may be ham- pered. Achieving efficient economic institutions through institutional change is a puzzle that has concerned economists for a long time. This concern is even more important in the case of economic policy implementation in developing countries because in these countries there are several market failures that hinder efficient outcomes.6 4 See Katharina Pistor, Martin Raiser & Stanislaw Gelfer, Law and Finance in Transition Economies 3 (Eur. Bank for Reconstr. and Dev., Working Paper No. 49, 2000), available at http://papers.ssrn.com/ sol3/papers.cfm?abstract id=214648 (stressing the importance of legal enforcement for markets in transition). 5 See, e.g., Gordon Tullock, The Transitional Gains Trap, 6 BELL J. ECON. 671, 673-75 (1975) (describing how the mercantile community sought the enactment of blue laws for their own self-interest); see generally TOWARD A THEORY OF THE RENT- SEEKING SOCIETY (James M. Buchanan, Robert D. Tollison & Gordon Tullock, eds., 1980) (offering a discussion of rent-seeking
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