Tax avoidance, investor protection, and investment inefficiency: An international evidence

Abstract

This paper provides new evidence on the relationship between corporate tax avoidance, and investment inefficiency. Based on a sample of 82,487 firm-year observations across 38 countries, we find that tax avoidance is positively associated with inefficient investments. Particularly, the positive effect of corporate tax avoidance is due to the underinvestment problem suggesting that firms engaging in tax saving activities suffer from exacerbated information asymmetry issues leading them to underinvest. More importantly, the results show that the relationship between tax avoidance and investment inefficiency is more prevalent during crisis periods, suggesting that in periods of economic shortfalls, the investment behavior is altered due to high external financing cost. We also find that the relation between tax avoidance activities and investment inefficiency is less prevalent in countries with strong investor protection. These findings are robust to alternative samples, measures of tax avoidance, investor protection and to endogeneity issues.