Does Mandatory Auditing Reduce Fraud? Evidence from the Swedish Auditing Reform

Abstract

Based on the argument by policymakers that mandatory auditing prevents fraud, we examine the association between auditing and suspected accounting fraud, tax fraud and other fraudulent behaviors in failing privately held micro firms. Univariate results and regressions without controls for characteristics of the entrepreneurs show positive associations between opting out of auding and fraud. However, the associations are insignificant when we use an instrumental variable and a difference-indifference research design to control for confounding variables. With respect to auditing mandates, our results do not support the view that audit mandates reduce fraud. Our findings suggest, on the contrary, that audit mandates may suppress information about an entrepreneur's type, which is revealed by the choice to opt-out of auditing.

Keywords: Mandatory Auditing, Fraud, Auditing Reform