Working Paper: NBER ID: w19251
Authors: Joseph J. Gerakos; Chad Syverson
Abstract: The audit market's unique combination of features-its role in capital market transparency, mandated demand, and concentrated supply-means it receives considerable attention from policymakers. We explore the effects of two market scenarios that have been the focus of policy discussions: a) further supply concentration due to one of the "Big 4" auditors exiting and b) mandatory audit firm rotation. To do so, we first estimate publicly traded firms' demand for auditing services, treating services provided by each of the Big 4 as differentiated products. We then use those estimates to calculate how each scenario would affect client firms' consumer surplus. We estimate that, conservatively, exit by one of the Big 4 would reduce client firms' surplus by $1.2-1.8 billion per year. These estimates reflect only firms' lost options to hire the exiting auditor; they do not include the likely fee increases resulting from less competition among auditors. We calculate that the latter could result in audit fee increases between $0.3-0.5 billion per year. Such losses are substantial; by comparison, total audit fees for public firms were $11 billion in 2010. We find similarly large impacts from mandatory audit firm rotation, estimating consumer surplus losses at approximately $2.4-3.6 billion if rotation were required after ten years and $4.3-5.5 billion if rotation were mandatory after only four years.
Keywords: No keywords provided
JEL Codes: D43; G3; K22; L13; L84; M42
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| exit of a big 4 audit firm (M42) | reduction in client firms' consumer surplus (F61) |
| moving from four to three major auditors (M42) | audit fee increases (M42) |
| mandatory audit firm rotation after ten years (M42) | consumer surplus losses (D11) |
| mandatory audit firm rotation after four years (M42) | consumer surplus losses (D11) |
| exit of a big 4 audit firm (M42) | cash transfers to compensate for the loss (F16) |