Porta et al.maintain that legal origins are still exogenous',since legal struc- tures 'cannot just be responding to market development'(La Porta et al.,2008: 298).The issue,they suggest,is not whether legal origin is shaping economic outcomes,but rather 'the difficulty of identifying the channel'through which it operates (La Porta et al.,2008:298). Notwithstanding this recent and important clarification,the legal origin claim suffers from serious problems of conception and implementation.To start with, the practical application of the fourfold classification that forms the explanatory variable-namely,into common law and French,German,and Nordic civil law systems-is fraught with difficulties.Whilst one may clearly distinguish the legal systems of the 'mother countries'-England,France,and Germany-the appropriate characterisation of most of the countries included in the regression studies-that is,the legal systems of countries in Eastern Europe,Asia,Africa and Latin America-is anything but clear(Siems 2007).These difficulties of classification call into question not only the particular specification of the regression studies,but more generally the possibility of drawing 'bright line' distinctions between different classes of legal family'. To be sure,classification by legal origin is really no more than a proxy for underlying differences.In order to avoid problems of classification,therefore,it would be better to seek to code these differences directly (suggested in Siems 2006b).However,as La Porta et al.(2008:298)recognise,this prompts the question as to what the precise mechanisms are by which legal institutions are thought to influence the content of legal rules.Unfortunately,extant accounts of the mechanisms by which legal origins exert their influence-through the political'and 'adaptability'channels (see Beck and Levine,2004,2005)-are based upon an excessively reductionist (or,more simply,inaccurate)view of the distinction between common and civil law systems. The 'political'channel posits that judges in common law systems have greater power (as lawmakers)and independence from the other branches of government,and consequently may be expected to do a better job in protecting private property rights from encroachment by the state.In contrast in civilian jurisdictions,the legislature has greater control over legal institutions,including judicial appointment,selection and tenure,which means that the judiciary are less able to protect individual property rights against rent-seeking by the state. This focuses on the protection of investors'property rights,and the ability of a state or system to commit credibly to do this over time. The so-called 'adaptability'channel is based on the idea that legal rules may need to change and be updated in response to developments in technology so as 7
7 Porta et al. maintain that ‘legal origins are still exogenous’, since legal structures ‘cannot just be responding to market development’ (La Porta et al., 2008: 298). The issue, they suggest, is not whether legal origin is shaping economic outcomes, but rather ‘the difficulty of identifying the channel’ through which it operates (La Porta et al., 2008: 298). Notwithstanding this recent and important clarification, the legal origin claim suffers from serious problems of conception and implementation. To start with, the practical application of the fourfold classification that forms the explanatory variable—namely, into common law and French, German, and Nordic civil law systems—is fraught with difficulties. Whilst one may clearly distinguish the legal systems of the ‘mother countries’—England,5 France, and Germany—the appropriate characterisation of most of the countries included in the regression studies—that is, the legal systems of countries in Eastern Europe, Asia, Africa and Latin America—is anything but clear (Siems 2007).6 These difficulties of classification call into question not only the particular specification of the regression studies, but more generally the possibility of drawing ‘bright line’ distinctions between different classes of ‘legal family’. To be sure, classification by legal origin is really no more than a proxy for underlying differences. In order to avoid problems of classification, therefore, it would be better to seek to code these differences directly (suggested in Siems 2006b). However, as La Porta et al. (2008: 298) recognise, this prompts the question as to what the precise mechanisms are by which legal institutions are thought to influence the content of legal rules. Unfortunately, extant accounts of the mechanisms by which legal origins exert their influence—through the ‘political’ and ‘adaptability’ channels (see Beck and Levine, 2004, 2005)—are based upon an excessively reductionist (or, more simply, inaccurate) view of the distinction between common and civil law systems. The ‘political’ channel posits that judges in common law systems have greater power (as lawmakers) and independence from the other branches of government, and consequently may be expected to do a better job in protecting private property rights from encroachment by the state. In contrast in civilian jurisdictions, the legislature has greater control over legal institutions, including judicial appointment, selection and tenure, which means that the judiciary are less able to protect individual property rights against rent-seeking by the state. This focuses on the protection of investors’ property rights, and the ability of a state or system to commit credibly to do this over time. The so-called ‘adaptability’ channel is based on the idea that legal rules may need to change and be updated in response to developments in technology so as
to better track the needs of the real economy.Following the arguments of Hayek (1960),the common law,through its decentralised judicial decision making,is thought to be better able to respond quickly to incremental changes than is a more structured legal system,in which changes must come from the top,and within which a high degree of internal coherence must be maintained (Mahoney,2001). This overlooks the point that the adaptability of legal systems is not only about courts.Legal adaptability depends on a wide set of factors.Siems (2006b) provides a list of 35 criteria out of which only seven concern judicial decision making.The other criteria concern,for instance,swift law making,evaluation of existing law,feedback by interested parties,democratic structures,principled legislation,lawyers fees,innovative legal thinking of legal academics,openness towards foreign ideas,respect of scientific research etc.Here too,of course, there are differences between countries.However,there is no reason to assume that common law countries have a natural advantage over civil law countries. Moreover,the idea that common law judges have discretion to shape rules to changing economic circumstances,while civilian judges are bound to apply, through rigid deductive logic,the strict legal text of the code,is,as Mattei (1997:79)has shown,'dramatically misleading,being based on a superficial and outdated image of the differences between the common law and the civil law'.Arguments about whether judicial decisions are a formal 'source'of law in civilian systems aside,the prominent role of judicial decision-making in the civil law is now clearly established (see Markesinis,2003).Notwithstanding the efforts of the drafters of the French civil code to limit judicial influence and curb the doctrine of judicial precedent,neither before nor after the French codification could any of the civil law systems be fairly characterised as the one described by the French post-revolutionary scholars'(Mattei,1997:83).Many of the doctrines which are thought to be most characteristic of a distinctive civilian approach to economic regulation,such as the application of the concept of good faith to commercial contracts,were judicial innovations (see Teubner, 2001;Pistor,2005).Moreover,when the sources of company law,insolvency law,and labour regulation,specifically,are considered,the systems are closer together than the law and finance literature supposes (Funken,2003;Siems 2005b;Ahlering and Deakin,2007;Armour,2008).If there is a conceptual difference,it may even be the case that civil law judges have more freedom than common law judges.As explained by Davies (1997:8): [in the UK]there are now few of those general principles which are not affected in some way be the extremely detailed provisions of the Act 8
8 to better track the needs of the real economy. Following the arguments of Hayek (1960), the common law, through its decentralised judicial decision making, is thought to be better able to respond quickly to incremental changes than is a more structured legal system, in which changes must come from the top, and within which a high degree of internal coherence must be maintained (Mahoney, 2001). This overlooks the point that the adaptability of legal systems is not only about courts. Legal adaptability depends on a wide set of factors. Siems (2006b) provides a list of 35 criteria out of which only seven concern judicial decision making. The other criteria concern, for instance, swift law making, evaluation of existing law, feedback by interested parties, democratic structures, principled legislation, lawyers fees, innovative legal thinking of legal academics, openness towards foreign ideas, respect of scientific research etc. Here too, of course, there are differences between countries. However, there is no reason to assume that common law countries have a natural advantage over civil law countries. Moreover, the idea that common law judges have discretion to shape rules to changing economic circumstances, while civilian judges are bound to apply, through rigid deductive logic, the strict legal text of the code, is, as Mattei (1997: 79) has shown, ‘dramatically misleading, being based on a superficial and outdated image of the differences between the common law and the civil law’. Arguments about whether judicial decisions are a formal ‘source’ of law in civilian systems aside, the prominent role of judicial decision-making in the civil law is now clearly established (see Markesinis, 2003). Notwithstanding the efforts of the drafters of the French civil code to limit judicial influence and curb the doctrine of judicial precedent, ‘neither before nor after the French codification could any of the civil law systems be fairly characterised as the one described by the French post-revolutionary scholars’ (Mattei, 1997: 83). Many of the doctrines which are thought to be most characteristic of a distinctive civilian approach to economic regulation, such as the application of the concept of good faith to commercial contracts, were judicial innovations (see Teubner, 2001; Pistor, 2005). Moreover, when the sources of company law, insolvency law, and labour regulation, specifically, are considered, the systems are closer together than the law and finance literature supposes (Funken, 2003; Siems 2005b; Ahlering and Deakin, 2007; Armour, 2008). If there is a conceptual difference, it may even be the case that civil law judges have more freedom than common law judges. As explained by Davies (1997: 8): ‘[in the UK] there are now few of those general principles which are not affected in some way be the extremely detailed provisions of the Act
whose bulk astonishes our partners in the European Community.Their legislation is expressed in relatively general terms which the courts are left to interpret purposefully.[....Contrary to what an earlier generation was taught at Law School,in the Civil Law countries judges have greater freedom to make law (albeit on the basis of codified general principles) while in the United Kingdom it is increasingly made by statute and judges are inhibited from developing new principles....' Thirdly,the legal origins hypothesis claims that the crystallization of a particu- lar legal infrastructure or order,which in the case of most countries occurred at some point in the nineteenth century or at the latest in the early twentieth cen- tury (or even at some point in the twelfth and thirteenth century,as claimed by some law and finance scholars;see the references in Siems,2006b)is still in- fluencing the content of substantive rules together with their enforcement and interpretation,and thereby a range of economic outcomes,to this day.This im- plies a very strong form of path dependence.Thus while the content of legal rules may vary over time,legal infrastructure,it is suggested,does not:'the le- gal system provides the fundamental tools for addressing social concerns and it is that system,with its codes,modes of thought and even ideologies,which is very slow to change'(La Porta et al.,2008:307).This is the basis on which the inherited legal origin effect is said to influence even those areas of substantive regulation which have arisen comparatively recently:both labour laws and se- curities laws are creatures of the twentieth century...yet...these laws took different forms in countries from different legal traditions,consistent with broad strategies of how the law intervenes'(La Porta et al.,2008:307). Yet the basis on which the origin of a legal system should have such a powerful and long-lasting effect is far from clear.The assumption is that the legal infra- structure of a system is more or less fixed at the point of its transposition or re- ception.Economic developments or political forces may subsequently affect the content of legal rules,but the core of the legal system is,apparently,imper- vious to their influence.Thus a further strong and unexplained assumption is that of the unidirectional nature of the causal forces at play here.Without an explanation of why such strong path dependencies might have arisen,it is diffi- cult to know what policy implications,if any,to draw from the results in the law and finance literature.If path dependencies are sufficiently strong to have per- sisted for hundreds of years,is there anything that national policymakers can do to ameliorate their financial development if they have the misfortune of being saddled with the 'wrong'legal origin?Understanding the source of such path dependencies is,clearly,crucial to understanding the options available to policy makers contemplating legal and institutional change.The stress on the rigidity 9
9 whose bulk astonishes our partners in the European Community. Their legislation is expressed in relatively general terms which the courts are left to interpret purposefully. [….] Contrary to what an earlier generation was taught at Law School, in the Civil Law countries judges have greater freedom to make law (albeit on the basis of codified general principles) while in the United Kingdom it is increasingly made by statute and judges are inhibited from developing new principles….’ Thirdly, the legal origins hypothesis claims that the crystallization of a particular legal infrastructure or order, which in the case of most countries occurred at some point in the nineteenth century or at the latest in the early twentieth century (or even at some point in the twelfth and thirteenth century, as claimed by some law and finance scholars; see the references in Siems, 2006b) is still influencing the content of substantive rules together with their enforcement and interpretation, and thereby a range of economic outcomes, to this day. This implies a very strong form of path dependence. Thus while the content of legal rules may vary over time, legal infrastructure, it is suggested, does not: ‘the legal system provides the fundamental tools for addressing social concerns and it is that system, with its codes, modes of thought and even ideologies, which is very slow to change’ (La Porta et al., 2008: 307). This is the basis on which the inherited legal origin effect is said to influence even those areas of substantive regulation which have arisen comparatively recently: ‘both labour laws and securities laws are creatures of the twentieth century . . . yet . . . these laws took different forms in countries from different legal traditions, consistent with broad strategies of how the law intervenes’ (La Porta et al., 2008: 307). Yet the basis on which the origin of a legal system should have such a powerful and long-lasting effect is far from clear. The assumption is that the legal infrastructure of a system is more or less fixed at the point of its transposition or reception. Economic developments or political forces may subsequently affect the content of legal rules, but the core of the legal system is, apparently, impervious to their influence. Thus a further strong and unexplained assumption is that of the unidirectional nature of the causal forces at play here. Without an explanation of why such strong path dependencies might have arisen, it is difficult to know what policy implications, if any, to draw from the results in the law and finance literature. If path dependencies are sufficiently strong to have persisted for hundreds of years, is there anything that national policymakers can do to ameliorate their financial development if they have the misfortune of being saddled with the ‘wrong’ legal origin? Understanding the source of such path dependencies is, clearly, crucial to understanding the options available to policy makers contemplating legal and institutional change. The stress on the rigidity
and unidirectional causal effect of the legal order is all the more difficult to un- derstand given that the legal origins approach has apparently 'encouraged regu- latory reforms in dozens of countries'.(La Porta et al.,2008:326). 2.4 Summary The foregoing survey of the limitations of the 'law and finance'literature reveals a number of fruitful questions for research.In particular,little has been done to investigate the dynamic effects of particular legal systems in relation to the production of substantive legal rules:that is,how particular attributes of legal origins or systems shape and influence the evolution of the law,and in turn,the real economy.Such an approach may shed light on several of the contested issues,namely:(i)how,if at all,the structure of legal institutions influences the content and efficacy of legal rules;(ii)whether the differences between legal systems are reducing over time;and (iii)whether legal reforms stimulate financial and economic development,or vice versa. 3.The dynamics of legal change and economic development:theory By 'dynamics',we refer to the ways in which the structure of a particular institution-the legal system-may influence the direction of its own evolution over time.Law and finance scholars theorise,in the form of 'adaptability'and 'political'channels,two dynamic mechanisms that might account for the differences in both substantive legal rules,and their impact upon the real economy-on the level of stock market development,ownership structure of listed firms,level of dividends paid out to shareholders,private sector credit,the incidence of business start-up,levels of employment and unemployment,and (in the developing world)the size of the informal sector.Even assuming that these mechanisms can in some way be reconfigured so as to avoid relying on an inaccurate account of the common law/civil law divide,but on more specific features,their use begs significant questions.If some national legal systems are inherently 'weaker'than others,why do they persist?What precisely is the role played by the transplantation and diffusion of legal norms and procedures?The sources of such large path dependencies must surely also be closely tied to the patterns of legal institutions themselves.With this point in mind,we will now see if the 'adaptability'and political'theories can be decomposed in a way which will enable us to identify more precisely the mechanisms which may be at work. 3.1 Legal origin,economic growth and the transplantation of norms The adaptability channel'claim,that civil law systems are inherently less supportive of market institutions than common law ones,was made initially by 10
10 and unidirectional causal effect of the legal order is all the more difficult to understand given that the legal origins approach has apparently ‘encouraged regulatory reforms in dozens of countries’. (La Porta et al., 2008: 326). 2.4 Summary The foregoing survey of the limitations of the ‘law and finance’ literature reveals a number of fruitful questions for research. In particular, little has been done to investigate the dynamic effects of particular legal systems in relation to the production of substantive legal rules: that is, how particular attributes of legal origins or systems shape and influence the evolution of the law, and in turn, the real economy. Such an approach may shed light on several of the contested issues, namely: (i) how, if at all, the structure of legal institutions influences the content and efficacy of legal rules; (ii) whether the differences between legal systems are reducing over time; and (iii) whether legal reforms stimulate financial and economic development, or vice versa. 3. The dynamics of legal change and economic development: theory By ‘dynamics’, we refer to the ways in which the structure of a particular institution—the legal system—may influence the direction of its own evolution over time. Law and finance scholars theorise, in the form of ‘adaptability’ and ‘political’ channels, two dynamic mechanisms that might account for the differences in both substantive legal rules, and their impact upon the real economy—on the level of stock market development, ownership structure of listed firms, level of dividends paid out to shareholders, private sector credit, the incidence of business start-up, levels of employment and unemployment, and (in the developing world) the size of the informal sector. Even assuming that these mechanisms can in some way be reconfigured so as to avoid relying on an inaccurate account of the common law/civil law divide, but on more specific features, their use begs significant questions. If some national legal systems are inherently ‘weaker’ than others, why do they persist? What precisely is the role played by the transplantation and diffusion of legal norms and procedures? The sources of such large path dependencies must surely also be closely tied to the patterns of legal institutions themselves. With this point in mind, we will now see if the ‘adaptability’ and ‘political’ theories can be decomposed in a way which will enable us to identify more precisely the mechanisms which may be at work. 3.1 Legal origin, economic growth and the transplantation of norms The ‘adaptability channel’ claim, that civil law systems are inherently less supportive of market institutions than common law ones, was made initially by
Hayek(1960)and has more recently been revived by Mahoney (2001:505): there are structural differences between common and civil law,most notably the greater degree of judicial independence in the former and the lower level of scrutiny of executive action in the latter,that provide governments with more scope for alteration of property and contract rights in civil law countries'.If legal origin had this effect,we would expect there to be differential growth rates for common law and civil law countries.However,this claim is not clearly made by LLSV themselves.In most the analyses which they have offered,GDP is treated as a control,rather than as the dependent variable.Mahoney (2001), whose analysis is based on a sample of developed and developing countries in the period from the 1960s to the 1990s,claims to show the GDP per head grew faster in common law systems during this period.?However,However,La Porta et al.(2008:301-2)note that his results hold for French-origin systems only if the civil law category is disaggregated into its French,German,and Scandinavian sub-groups,and that even then,his finding does not hold if certain controls,normal in this line of literature,are included.Other analyses suggest no such relationship is if developed nations alone are considered.Hall and Soskice (2001:21)show that coordinated market systems in developed countries,all of which have civil law origins,had higher rates of GDP growth than liberal market regimes,all of which have common law origins,in the 1960s and 1970s.Growth rates for the two groups were roughly the same for the period from the mid-1970s to the mid-1980s.The liberal market systems then grew more quickly in the period up to the late 1990s which is the point at which the LLSV indices were constructed,but GDP per head was still slightly higher,on average,in the coordinated market systems. If there are negative effects of civil law origin,they seem to be confined to developing systems.Here,proponents of the legal origin hypothesis offer an argument which is related to the effects of transplantation.What they identify as the civil law orientation towards centralized state control of the economy may, they suggest,have been efficient in the mainland European (or,to be even more specific,French)context in which it originated,but it gives rise to inefficiencies when these norms and practices are transplanted:when a civil law system is transplanted into a country with a bad'government,it will lead to less secure property rights,heavier intervention and regulation,and more corruption and red tape than does a common law system transplanted into a similar environment'(Glaeser and Shleifer,2002:1221).This is a plausible approach, but it means that the effects of legal origin must be distinguished from those of transplantation as such,with closer attention paid to the conditions under which transplants occurred in particular jurisdictions and the reasons for the success or failure of the process in those cases (on which,see Pistor et al.,2003). 11
11 Hayek (1960) and has more recently been revived by Mahoney (2001: 505): ‘there are structural differences between common and civil law, most notably the greater degree of judicial independence in the former and the lower level of scrutiny of executive action in the latter, that provide governments with more scope for alteration of property and contract rights in civil law countries’. If legal origin had this effect, we would expect there to be differential growth rates for common law and civil law countries. However, this claim is not clearly made by LLSV themselves. In most the analyses which they have offered, GDP is treated as a control, rather than as the dependent variable. Mahoney (2001), whose analysis is based on a sample of developed and developing countries in the period from the 1960s to the 1990s, claims to show the GDP per head grew faster in common law systems during this period.7 However, However, La Porta et al. (2008: 301-2) note that his results hold for French-origin systems only if the civil law category is disaggregated into its French, German, and Scandinavian sub-groups, and that even then, his finding does not hold if certain controls, normal in this line of literature, are included. Other analyses suggest no such relationship is if developed nations alone are considered. Hall and Soskice (2001: 21) show that coordinated market systems in developed countries, all of which have civil law origins, had higher rates of GDP growth than liberal market regimes, all of which have common law origins, in the 1960s and 1970s. Growth rates for the two groups were roughly the same for the period from the mid-1970s to the mid-1980s. The liberal market systems then grew more quickly in the period up to the late 1990s which is the point at which the LLSV indices were constructed, but GDP per head was still slightly higher, on average, in the coordinated market systems. 8 If there are negative effects of civil law origin, they seem to be confined to developing systems. Here, proponents of the legal origin hypothesis offer an argument which is related to the effects of transplantation. What they identify as the civil law orientation towards centralized state control of the economy may, they suggest, have been efficient in the mainland European (or, to be even more specific, French) context in which it originated, but it gives rise to inefficiencies when these norms and practices are transplanted: ‘when a civil law system is transplanted into a country with a ‘bad’ government, it will lead to less secure property rights, heavier intervention and regulation, and more corruption and red tape than does a common law system transplanted into a similar environment’ (Glaeser and Shleifer, 2002: 1221). This is a plausible approach, but it means that the effects of legal origin must be distinguished from those of transplantation as such, with closer attention paid to the conditions under which transplants occurred in particular jurisdictions and the reasons for the success or failure of the process in those cases (on which, see Pistor et al., 2003)