How Does Reciprocal Rent-Seeking Between Politicians and Auditors Influence Audit Quality? Evidence from China

Abstract

SYNOPSISIn this study, we propose a reciprocal rent-seeking game between politicians and individual auditors with political connections and examine how these auditors' political connections influence their audit quality. Using hand-collected data from China between 2008 and 2013, we find that politically connected auditors have a significantly lower tendency to issue modified audit opinions (MAOs). We also find that politicians' career prospects are significantly adversely influenced by MAOs being issued in their jurisdictions, while connected auditors charge higher audit fees, acquire larger market share, and have a lower chance of encountering regulatory sanctions. Further evidence suggests that politically connected auditors tend to issue less accurate audit opinions, reduce client firms' earnings response coefficients (ERCs), and increase client firms' capital costs. Collectively, our study suggests that individual auditors' political connections facilitate the reciprocal rent-seeking activities between them and politicians, which ultimately undermines audit quality.JEL: G32; G38; M42; M48.