Economic bonding, auditor safeguard and audit quality : Peer review evidence from individual auditors

Abstract

In this paper, we examine whether the economic bond between an individual engagement partner and client threatens auditor independence and thus audit quality. We also investigate if auditors good economic position acts as a safeguard against this economic bond. Using a sample of peer reviewed individual audit engagements of 264 Finnish auditors we examine whether the clients economic size is likely to affect audit quality as measured by the degree of compliance with audit standards (peer review). Furthermore, using taxable earned (salaries) and unearned (capital gains) income information of auditors we investigate if high income level of an auditor diminishes the risk of financial self-interest threat. Our results provide evidence that Finnish auditors show a very high independence although big clients economic size (turnover) weakly affects audit quality. There is weak evidence that auditors are likely to show higher quality for larger clients. Our results also suggest that this financial self-interest threat can be safeguarded by auditors high unearned income level diluting the economic bond with the client. Unearned income acts here as a proxy for economic wealth.