How Does Financial Reporting Quality Relate To Investment Efficiency?

Prior evidence suggests that higher quality financial reporting improves capital investment efficiency by reducing information asymmetries that give rise to frictions such as moral hazard and adverse selection. Unaddressed is whether higher quality financial reporting is associated with lower capital over-investment, under-investment, or both. This paper documents a negative (positive) association between financial reporting quality and investment for firms operating in settings more prone to over-investment (under-investment). Firms with higher financial reporting quality are also less likely to deviate from their predicted level of investment. Overall, paper explores the mechanisms that link financial reporting quality to investment efficiency.