Does tax avoidance increase informational asymmetry? Evidence from the Tax Cuts and Jobs Act (TCJA)

ABSTRACT This article aims to examine whether corporate tax avoidance increases informational asymmetry. Specifically, we examine how the 2017 Tax Cuts and Jobs Act (TCJA) decreased tax avoidance incentives and, as a consequence, reduced firms’ informational asymmetry. Previous studies offer limited causal evidence on how tax avoidance, transparency, and informational asymmetry interact under major tax reforms such as the TCJA. The study advances the understanding of how tax strategy decisions influence capital-market transparency and the incorporation of firm-specific information into prices. It offers insights to scholars, policymakers, and investors concerned with governance and financial reporting quality. The findings inform policymakers about the potential of tax reforms - particularly tax reductions and provisions aimed at improving information efficiency. They also highlight that curbing tax avoidance enhances corporate transparency. A difference-in-differences (DiD) design exploits the TCJA as an exogenous shock, comparing U.S. multinationals with subsidiaries in tax havens (less affected) to those with subsidiaries in high-tax jurisdictions (more affected). Stock price synchronicity, which measures the co-movement of individual stock prices with the Standard & Poor’s 500, serves as a proxy for informational asymmetry. This study shows that a reduction in firms’ tax avoidance practices decreases informational asymmetry for investors. Using the TCJA as an exogenous shock that lowered incentives for tax avoidance, we document that U.S. stock price synchronicity (our measure of informational asymmetry) declined after the TCJA for U.S. multinationals, but significantly less for multinationals with subsidiaries in tax havens. These findings provide causal evidence that tax avoidance impairs investors’ ability to incorporate firm-specific information into stock prices.