Corruption norms and corporate tax avoidance in a weak institutional and environment : evidence from alcohol consumption in China

Abstract

Both anecdotal and empirical evidence suggests a relation between cultural norms and illegitimate corporate behaviour. The mechanisms through which cultural norms exert effect on corporate behaviour include socialization, learning and networking, and employee selection. Being among the most significant elements of traditional Chinese culture, alcoholic drinking is the prime lubricant for social interactions and often serves to facilitate business dealings and exchange of favours. It is widely believed that drinking is a hotbed of power abuse and corruption. In order to improve our understanding of the determinants of corporate behaviour, this study is aimed at examining whether corruption norms inferred from the drinking culture are associated with tax noncompliance as measured by the firm’s effective tax rate (ETR). The sample involves 14,511 observations and 2,169 unique firms in 2004-2013. By exploiting geographic variation in local culture of alcohol consumption, the preliminary results indicate that ETRs are significantly lower in firms headquartered in the regions with a higher level of alcohol consumption. The result is also robust when I use different measures of tax avoidance and regional sin culture. Further, I adopt an instrumental variable method where the possibly endogenous variable is instrumented. Specifically, I instrument for Alcohol_consumption with the regional average temperature. The logic is that temperature has effect on alcohol consumption rather than corporate tax reporting behavior. I continue to find a strong positive relation between alcohol consumption and tax avoidance. The effect is more significant for firms with higher managerial incentives to avoid tax and for firms located in weak institutional environment but weaker when external scrutiny from the government and the media is more stringent.

As revealed by the results, absent market-supporting institutions, the enforcement of tax laws and regulations without a corresponding effort to combat alcohol-related sin culture is less likely to be effective. From the perspective of tax policy, the results suggest that policymakers ought to pay more attention to the possible role played by informal culture when examining corporate behavior.

Date of Award	15 Jul 2019
Original language	English
Awarding Institution	Lingnan University
Supervisor	Zhenpin Kenny LIN (Supervisor) & Wei QIANG (Co-supervisor)