What are the effects of culture and institutions on classification shifting in India

Abstract This study investigates the impact of culture, religion, and legal environment on classification shifting behavior in India. Using a sample of 30,361 firm-year observations from 2000 and 2015, we employ a panel regression analysis that accounts for heterogeneity across industries and time. We find that misclassification of expenses is present in India, and that religion helps moderate classification shifting. However, certain dimensions of culture such as individualism, power distance, uncertainty avoidance, and masculinity increase classification shifting, whereas long-term orientation mitigates it. We also examine various indirect channels involving interactions between the legal environment, religion, and various dimensions of culture and find variable results that suggest underlying complexities. In the weak Indian legal environment, religion does not appear sufficient to combat classification shifting practices. The findings have policy implications: we argue that strengthening the legal environment would complement religion in constraining managerial motivation to misclassify core expenses into special items to boost reported core earnings.