The Deterrence Value of Tax Audit: Estimates from a Randomized Audit Program
In modern tax systems audit is the sole instrument through which the tax authority can detect noncompliance and create deterrence. We exploit a national program of randomized audits covering the entire population of VAT filers from Pakistan to study how much evasion audit uncovers and how much evasion it prevents by changing behavior. While audit uncovers a substantial amount of evasion (the evasion rate among firms in the bottom three size quartiles is more than 100%), it does not deter future cheating. Examining more than ten intensive and extensive margin outcomes, we detect no effect of audit on proximate or distant firm behavior. Our results suggest audits are suboptimally utilized in checking mechanical violations of law instead of creating deterrence against evasion.