he paper assesses the vulnerability of China to external shocks via the indirect negative effect of a slow-down in exports on domestic demand for investment. In the last decade China has increased its dependence on external demand, particularly from the advanced countries; at the same time it has become a primary destination market for goods produced in the rest of emerging Asia. Since 2001 investment expenditures have represented a key driver of Chinese GDP growth; as a very large share of activity in the manufacturing sector is export oriented, we expect fixed capital investment in this sector to be highly related to exports. Overcoming serious shortcomings in available data, we estimate an investment equation for the period 1993-2006 and find an elasticity of investment to exports in the manufacturing sector in the range between 0.9 and 1. Taking into account the dominant contribution of capital accumulation to Chinese GDP growth, we conclude that the growth effects of an external demand shock could become significant when taking into account the domestic investment channel.

We explore whether compensation policies in bidding firms counter or exacerbate agency conflicts by examining CEO pay and incentives around corporate takeovers. We find that even in mergers where bidding shareholders are worse off, bidding CEOs are better off three quarters of the time. In the years following mergers, CEOs of poorly performing firms receive substantial increases in option and stock grants that offset any effect of long-term underperformance on their wealth. As a result, the CEO’s pay and his overall wealth become insensitive to negative stock performance, but his wealth rises in step with positive stock performance. Corporate governance matters; bidding firms with stronger boards retain the sensitivity of their CEOs’ compensation to poor performance following the acquisition. In comparison, we find that CEOs are not rewarded for undertaking major capital expenditures, and that they receive only minor downside protection. Our results highlight that acquisitions are treated differently from other capital investments by the board in setting CEO compensation and our evidence is consistent with the self-serving management hypothesis in corporate acquisitions.