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Individualist-collectivist culture, ownership concentration and earnings quality*

Abstract In this study we explore the effects of individualist-collectivist culture, an important dimension of national cultures, on the entrenchment incentives of large shareholders. Specifically, we investigate how individualist-collectivist culture affects the relationship between ownership concentration and earnings quality. We predict that the social connections among corporate insiders are stronger in collectivist societies, thus reducing corporate monitoring efficiency and exacerbating agency problems. Consistent with our prediction we find the poor earnings quality that normally goes hand-in-hand with concentrated ownership, is improved when the firm’s national culture is individualist. We further find that the poor earnings quality induced by ownership concentration is more pronounced in East Asia, where cultures are rooted in Chinese cultures and collectivism. This study sheds light on the role that individualist-collectivist culture plays in shaping corporate insiders’ ethical behavior.