Effect of corporate governance on stock market liquidity: empirical evidence from Indian companies

Abstract

Despite the crucial role that stock market liquidity can play in the financial markets during times of financial turmoil, little is known about its drivers. The series of high-profile firm failures and economic distresses which have been initiated by liquidity risk mismanagement and model failure has highlighted the mounting importance of stock market liquidity, predominantly in the increasingly integrated global market. Corporate governance has been characterized as a set of mechanisms for board effectiveness and transparent disclosures. It protects investors from opportunistic behavior as it results in improved quality and quantity of information made available to them. It encompasses internal corporate governance variables pertaining to board structure and audit committee characteristics as well as the external corporate variables such as market control and takeovers. Indian companies are required to have more effective boards and are more transparent as required by the corporate governance and tougher disclosure legislations. The information so provided facilitates quality of price formation and helps in improving the stock market liquidity. This paper endeavors to investigate the impact of corporate governance (CG) on the stock market liquidity in Indian companies. The CG and stock market liquidity were measured in the sample BSE 500 listed companies during the FY 2013–FY 2017. Panel data regression model is applied for testing the hypothesized association. In addition, an effort has been made to investigate the overall scope of stock market liquidity in a broader context through a comprehensive analysis of stock market liquidity across industry sectors, size and individual company-specific characteristics. The study provides evidence of the important role played by CG in enhancing stock market liquidity of the company. It can guide the board of directors to enhance financial disclosures which consequently increases stock market liquidity. The analysis provides regulators, educators and investors an insight into the role of CG attributes in capital markets and thus helps them in improving their decision-making. It provides corporate policy makers some of the necessary inputs to chart the course of CG reforms and their enforcement in the country in future.