Do Measures of Audit Quality Really Measure Audit Quality? Evidence from the Banking Industry

43 Pages Posted: 31 Mar 2020

Date Written: March 5, 2020

Abstract

We examine whether measures of audit quality are able to measure the quality of audit in banks. We make use of a unique setting where the Reserve Bank of India (RBI) provided an accurate measure of asset quality in banks. We first attempt to establish that the RBI revealed asset quality is a better estimate than that disclosed by the banks. Using the difference between the RBI-revealed and the bank-reported figures as an external validation of audit,we are unable to find evidence that any of the generally accepted measures of audit quality do measure the quality of audit. We then examine whether the sensitivity of the bank’s asset quality to its borrowers’ health increases when the more accurate RBI-revealed figures are used and find that they do. Using the actual sensitivity of the bank’s true health to borrower health, we construct a novel measure of audit quality.

Keywords: banking; stress tests; audit

JEL Classification: M42, E58, G21

Suggested Citation

Abraham, Jefferson Kaduvinal and Tantri, Prasanna L., Do Measures of Audit Quality Really Measure Audit Quality? Evidence from the Banking Industry (March 5, 2020). Indian School of Business, Available at SSRN: https://ssrn.com/abstract=3549556 or http://dx.doi.org/10.2139/ssrn.3549556

Jefferson Kaduvinal Abraham

London Business School ( email )

Sussex Place
Regent's Park
London, NW1 4SA
United Kingdom

Prasanna L. Tantri (Contact Author)

Indian School of Business ( email )

Hyderabad, Gachibowli 500 032
India
9160099959 (Phone)

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