Internal Capital Markets: Alternative Governance

Internal Capital Market (ICM) is a kind of capital allocation mechanism in the diversified and multidivisional conglomerates or business groups. Although ICM just look like the fund management in the firm on the micro level, it displays the same financial functions as External Capital Market (ECM), such as stock market, bank system etc. Since Williamson proposed the notion of ICM, it has become the new research field in west countries in recent years. Generally ICM is studied on the basis of a single diversified firm's efficiency or inefficiency. In this paper, it is studied on a new perspective: it is considered as an important part in the process of capital allocation in macro level.ICM and ECM always spontaneously exist in the economic system in different ways. And with the change of the ICM or ECM's efficiency, they substitute each other. With the method of theoretical (Model) analysis and empirical analysis, paper deduces the laws and patterns of substitution between the ICM and ECM. Paper has designed four models to display these relations. They include Inside Investor Decision Model, Outside Investor Decision Model, Credit Strengthening Model and the Expropriate Model. To testify those models' conclusion, paper chooses four different cases in the world, including US, German and Japan, East Asia, Mexico and does a detailed research on the evidence of the ICM's existence and its substitution with ECM.Both of the theoretical and empirical analysis not only show us the widespread existence and importance of ICM, but also make us understood that because of poor capital market in the developing country, ICM which exists in the business group could be used as the substitutional financial institution and improve the efficiency of capital allocation to facilitate the economic development, which has a strong evidence in East Asia's start up. But in this paper, another problem about ICM is concerned: as for the complex firm structure, ICM makes the corporate governance more difficulty, and in the absence of perfect corporate governance mechanism, ICM is easily used as the tools of expropriation by the firm's controller. In these cases the function of ICM is changed.On the basis of above research, paper analyzed the existence of ICM in China. During the China's economic development, the diversified business group and the finance company in the group can be considered as the character of ICM, but their effect to economic development is not so significant. This paper also has done a...