Does the Threat of Whistleblowing Reduce Accounting Fraud?
Posted: 25 Oct 2017
Date Written: October 25, 2017
This paper examines the deterrence effect of state and federal corporate whistleblower laws on the probability of accounting fraud. Under state False Claims Acts (FCA), whistleblowers who report fraud involving that state's pension fund investments are eligible for monetary rewards. I use staggered adoption of FCAs by states between 2001 and 2010 to compare the probability of fraud for firms owned by state pension funds after the state adopts an FCA to other firms not exposed to any state FCA. I find that firms' exposure to the threat of whistleblowing under the FCA reduces the likelihood of accounting fraud by 7%, as measured by imputed measures of accounting quality. At the federal level, the introduction of the Dodd-Frank whistleblower provisions by the Securities and Exchange Commission in 2011 reduced the probability of accounting fraud to a greater extent for firms that had not been affected previously by state FCAs. I also find firms' exposure to whistleblowing threats reduces audit fees by 5%, consistent with concerned managers tightening internal controls to detect fraud, which can substitute for external audits and/or reduce the control risk auditors face. Overall, this paper sheds light on the policy debate over the effectiveness of whistleblower provisions in preventing fraud.
Keywords: Whistleblowing, Fraud, Accounting Quality, False Claims Act, Dodd-Frank Act
JEL Classification: K00, K22, M40, M41, M43, M49
Suggested Citation: Suggested Citation