Confirmation Bias and Auditor Risk Assessments: Archival Evidence

Abstract

SUMMARY Judgment and decision-making research suggests that auditors' judgments are negatively affected by the use of heuristics. However, there is little research investigating whether such biases survive the quality control processes that regulators and audit firms implement to mitigate them. We investigate this by identifying a setting where one such bias—confirmation bias—is likely to manifest. Consistent with confirmation bias influencing observable audit outcomes, we find that auditors with previous experience auditing a client with a history of low risk followed by an increase in risk do not adequately respond to the higher level of risk. This effect is mitigated when the risk increase is likely large enough to violate auditors' reasonableness constraint and when the client is highly visible or has strong external monitors. Our study complements prior experimental research by providing archival evidence that auditors' use of heuristics has a significant effect on auditor judgments. JEL Classifications: M40; M42.