Capital market provides monitoring and disciplines firms, but how it impacts firms’ corporate tax avoidance is controversial. In this paper, we investigate how monitoring from capital market affects tax avoidance level using the Rule 202T pilot program of Regulation SHO as a natural experiment. We examine the impacts of shortsale constraints removal on tax avoidance by difference-in-differences regressions. We find that firms reduce tax avoidance behaviors after the removal of short sale constraints, because short sellers monitor firm and increase the probability of tax avoidance being caught. This effect is more pronounced in firms more dependent on equity financing. These findings suggest that monitoring stemming from ca pital market makes firms “steal” less from the government.

Key Words: Monitoring from Capital Market, Tax Avoidance, Short Selling.​