Tax-avoidance Effect on Investment Inefficiency: An Examination of Agency Theory

Abstract

Tax-avoidance activity in firms potentially increases investment inefficiency, arguably due to agency problems in firms. Further, this relationship shows country-wide variation. Using the data of 336 Indian firms from 2011 to 2021, this article examines the tax avoidance and investment efficiency relationship in the Indian context. It also provides empirical evidence for the agency argument on the tax avoidance-investment efficiency relationship. Estimates using the two-step system generalized methods of moments approach show that tax avoidance in Indian firms is positively associated with investment inefficiency, and the agency problem augments this relationship. The findings have significant policy implications for policymakers and firms. JEL Codes: G30, G32, G34