Do Auditors Understand Their Government Clients’ Economic Environment?

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Abstract

I investigate whether auditors supply the same level of audit quality to both their government sector and non-government sector clients. The literature finds that audit quality varies between audit offices; however, does it vary within the same office? I argue that, even though International Standards on Auditing - 315 (IAASB 2015) require auditors to understand their clients’ environment, auditors do not obtain a sufficient level of understanding of all of their clients primary economic environments and this, consequently, causes a variance in the supply of audit quality. I examine auditor understanding directly by determining whether their audit clients’ primary economic area matches the disclosed functional currency as mandated by IAS 21: The Effects of Changes in Foreign Exchange Rates. I find that auditors do not develop a sufficient understanding of their government sector clients’ economic environment. This finding signals that auditors may be conducting audits without fully understanding their clients’ economic environment which consequently reduces the information quality of the financial statements that the public uses to hold governments accountable.

Author

• Johnathon Cziffra, HEC Montréal