The Economics of Fraudulent Accounting

33 Pages Posted: 3 Nov 2008

See all articles by Semi Kedia

Semi Kedia

affiliation not provided to SSRN

Thomas Philippon

New York University (NYU) - Department of Finance; National Bureau of Economic Research (NBER)

Date Written: January 2005

Abstract

We study the consequences of earnings management for the allocation of resourcesamong firms, and we argue that fraudulent accounting has important economic consequences.We first build a model where the costs of earnings management are endogenous,and we show that, in equilibrium, bad managers hire and invest too much, distorting the allocation of real resources. We test the predictions of the multidimensional signalling model using new historical and firm-level data. We first show that periods of high stock market valuations are systematically followed by large increases in reported frauds. We then show that, during periods of suspicious accounting, insiders sell their stocks, while misreporting firms hire and invest like the firms whose income they are trying to match. When they are caught, they shed labor and capital and improve their true productivity. In the aggregate, our model seems able to account for the recent period of jobless andinvestment-less growth.

Suggested Citation

Kedia, Semi and Philippon, Thomas, The Economics of Fraudulent Accounting (January 2005). NYU Working Paper No. FIN-05-008. Available at SSRN: https://ssrn.com/abstract=1294144

Semi Kedia (Contact Author)

affiliation not provided to SSRN

No Address Available

Thomas Philippon

New York University (NYU) - Department of Finance ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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