Can Government Policies Induce Earnings Management Behavior? ‐Evidence from Chinese Public Listed Firms

Abstract

Earnings management behavior is a concern of standard setters, regulators, and investors. This study predicts that government policies can induce earnings management behavior. Based on a sample of 8,765 firm years ranging from 2002 to 2009, this study uses two methods to detect the effect of government policies on managers' earnings management behavior. One is the earnings distribution method developed by Burgstahler and Dichev (1997), and the other is the modified Jones model proposed by DeFond and Jiambalvo (1994). We find that policies issued by the China Securities Regulatory Commission (CSRC) can induce managers of listed firms to engage in earnings management to either avoid negative consequences (e.g., delisting) or to meet requirements (e.g., refinancing). So, although the purpose of government is to protect investors as well as to promote the healthy development of the securities market, its policies are a double‐edged sword: if there is no strict and effective control mechanism, government policies can harm investors and disturb the normal order of the securities market.