While formal institutions are considered important in affecting corporate behaviors, little attention has been paid to the role of informal institutions in such relation. We employ the (formal) corporate governance reforms and the (informal) individual countries' trust levels to examine how the informal institution moderates the impacts of the formal institution on corporate financial policies. Using a sample of 88,929 firm-year observations across 35 countries, we document a positive effect of corporate governance reforms on corporate financing and investment. More importantly, we find that the positive effect of the formal regulatory reforms is more pronounced with lower levels of informal country-level trust. Further analysis shows that corporate governance reforms lead to both lower under- and over-investment, and the effect is also stronger in low-trust countries. Our study sheds light on the interactive relation between corporate governance and trust and indicates that countries can offset the negative lack-of-trust effect on economic outcomes through formal regulatory reforms.

This study uses a unique institutional setting in China to investigate empirically the association between the organizational form of CPA firms (unlimited liability versus limited liability) and the reporting conservatism of auditors. Based on a sample of 5,007 audits of Chinese listed companies from the period of 2000 to 2004, we find that auditors in unlimited liability partnership firms are more likely to issue modified audit opinions than are auditors in limited liability CPA firms. This auditor conservatism stems from distressed firms with going-concern opinions, and we find no statistical evidence that partnerships give more modified opinions for non-distressed firms. In addition, auditors are less likely to issue modified reports after they incorporated the firm in the limited liability form. These analyses support our hypothesis that a limited liability regime induces lower auditor reporting conservatism. Our study contributes to the broader debate on liability reform in the auditing profession.

This study investigates whether good governance structures help constrain management's opportunistic behaviors (in the form of transfer pricing manipulations) in one of the world's most dynamic economies. Our data are a unique sample of 266 companies listed on the Shanghai stock exchange that disclose gross profit ratios on related-party transactions. We find that firms with a board that has a higher percentage of independent directors or a lower percentage of “parent” directors (i.e., directors who are representatives of the parent companies of the listed firms), or have different people occupying the chair and CEO positions, or have financial experts on their audit committees, are less likely to engage in transfer pricing manipulations. Overall, our research findings reveal that the quality of corporate governance is important in deterring the use of manipulated transfer prices in related-party sales transactions.