Abstract
This study examines the effect of economic policy uncertainty (EPU) on corporate tax avoidance using a comprehensive sample of 236,455 private firm-year observations from Greece for the period 2015-2021. Employing effective tax rate (ETR) as a proxy for tax avoidance, we find a positive and significant relationship between EPU and ETR. This finding suggests that, as economic policy uncertainty increases, firms engage in less tax avoidance, resulting in higher effective tax rates. This result is robust to alternative model specifications, endogeneity tests, weighted least squares, and subsample analyses. Additionally, the positive relationship between economic policy uncertainty (EPU) and effective tax rates is stronger when the governance quality is high. Firms facing higher EPU adopt conservative tax strategies to mitigate regulatory risks, which results in higher effective tax rates. The effect of EPU on ETR persists for up to five years, implying that firms continue their long-term tax planning in response to policy uncertainty. Furthermore, we reveal that the impact of economic policy uncertainty on firm performance is more prominent for firms with higher effective tax rates, highlighting the potential consequences of reducing tax obligations in times of increased uncertainty. Additional tests reveal that the positive association between EPU and ETR is driven by various components of policy uncertainty, including economic, political, financial, debt, tax, monetary, and pandemic-related uncertainties. Moreover, we find that the World Pandemic Uncertainty Index is negatively associated with ETR, indicating that firms respond differently to pandemic-induced uncertainty compared to general EPU. Our research adds to the existing body of knowledge by offering fresh insights into how policy unpredictability influences corporate tax avoidance strategies within a European context marked by significant economic volatility.
JEL Classification: G18; G32; H26; M40