1. Journal of Accounting and Economics
Reviewer’s Report A
Title of Manuscript: The effect of information quality on liquidity risk
Reference #: Vol. 52 No. 1, March 20
Report Due Date: October 14, 2015
Report Date: October 14, 2015
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Ruoqing Li

2. Review Report
The purpose of this research paper is to analysis how information quality impact to the cost of
equity capital by liquidity risk. The author, Jeffery Ng, studies this research question from the
following step. (1) Examining how information quality impact to the liquidity risk of ordinary
shares of stocks listed on NYSE, ANEX, NASDAQ, from January 1983 to December 2008 after
controlling for market characteristics (e.g., liquidity, trading volume, and return volatility) and
firm characteristics (e.g., sales growth, operating cycle, and capital intensity) that might be
correlated with either liquidity risk or information quality (e.g., Dechow and Dichev, 2002;
Francis et al., 2005; LaFond et al., 2007; Dichev and Tang, 2009). (2) investigating the economic
significance of the effect of information quality on cost of capital through liquidity risk. As a
benchmark, the author also compares this effect on cost of capital through market risk (Lambert
et al., 2007). (3) investigating modifications in the relation between information quality and
liquidity risk in three different phases: (i) phases of extreme decreases in market liquidity, (ii)
phases of extreme increases in market liquidity, and (iii) phases of relatively stable market
liquidity.
In this study, the author finds that higher information quality have negative relation with the cost
of capital though liquidity risk. Based on CAPM framework and prior researches, the author
builds an empirical model to investigate whether information quality is an element of liquidity
risk and to test the relationship between information quality and market risk. The author’s model

3. is better than pervious’ model due to focus on information quality proxy (such as Earnings
precision, Accruals quality, Analyst consensus, or Aggregate quality), market characteristics and
firm characteristics.
In general, this topic has a lot of discussion, and prior researches have some contribution. For
example: whether the market liquidity affect the stock return, and how accounting information
about a firm manifest in its cost of capital, despite the forces of diversification ((Lambert et al.,
2007). This paper, in many respects, delivers to information how investors face the information
quality to make an efficient decision in actual market. The following comment will explain my
opinion:
1) Contributions and the relationship to literature
The contribution of the paper is to use the broader objective of civilizing our
understanding of the mechanisms that underlie the relation between information quality
and cost of capital. The author could provide more discussion on systematic liquidity risk
as a mechanism linking information quality and cost of capital. In prior study, Christian
Leuz found the negative relationship between information quality and cost of capital.
Pastor and Stamburugh found the liquidity risk had positive relationship with expect
stock return (Pastor and Stambaugh 2003). In particular, stock that were more sensitive to
combined liquidity had substantially higher expected return. Lambert and Verrecchia
found the relation between various information attributes and the cost of capital.
However, Ng ignore some detailed discussions and evidence to support the research. For

4. Example, Pastor and Stamburugh include a prior liquidity beta as a predictor in their
research. In additional, the author doesn’t discussion about individual stocks liquidity as
factors in his research. Furthermore, the author should use his found evidence to explain
the post-earnings-announcement drift (PEAD), because information quality is higher, the
efficient should be more usefully, however PEAD phenomenon can not be explained by
prior knowledge.
2) Hypothesis
The author assumes that higher information quality lowers liquidity risk, which, in turn,
lowers cost of capital. The author uses an information characteristic of a firm as
information quality measurement. But we can not find a hypothetical ideal that
straightforwardly contacts information quality (or information risk) to liquidity risk is not
accessible. But author explain these reason by his intuition. The author could clearly
analysis the framework in prior studies and show some evidences to support his
theoretical model.
3) Research design
In this section, the author explains an empirical design that examines the correlation
between information quality and liquidity risk. At first, the author explains market
liquidity, he finds that the MKT have significant and affirmative relation with LIQ. It
indicates that market return are increased, so market liquidity will grow up. Second, by
the hypothesis, the author provides some analyses on the relation between information
quality and market risk and use the results to compare and contrast the cost of capital

5. effects of information quality via liquidity risk and market risk. The author builds
empirical design which is based on Pastor and Stambaugh’s (2003), in additional, the
author join much more factor in his model in order to explain his hypothesis. To calculate
the effect of information quality on liquidity risk, the author first set up LIQ, that is,
adjusted the effects of Fama and French (1993) factors, SMB and HML. In his
calculation, I find Ng don’t consider 𝛽𝑖
0
. I think this change, maybe effect the result’s
reliable, however the author gives me a reasonable explain in footnote 6.
4) Results
The result section has five parts. the first part introduces the analysis data and basic
relationship about sample data. The others parts show the examine result by the the
author’s assumption. This section focus on a main relationship between information
quality and liquidity risk. The author gives me some empirical found to explain these
relationships. He collects a lot of samples form January 1983 to December 2008, I think
these sample can analysis. These tables in this section give me directly explain his
founds. Table 2 show information quality proxy and control variables. Table 3 show
information quality on liquidity risk and market risk, the result of this table evident the
hypotheses is true. The argument lacks the intuition for the reasons why information
quality would affect the systematic component of liquidity. The author doesn’t have a
clear economic motivation for his empirical work. By the way, Ng discusses that almost
50% of liquidity risk can explicated by information quality, but it is complex the the
relation between price premium and information quality.

6. Based on my limited knowledge in this research field, I think this study clearly discussion the
relationship among information quality and liquidity risk and cost of capital. The research structure
is organized rigorous. The result table support research hypotheses strongly. His results suggest
the firm with enhanced accounting variables, for example transparency and information quality,
provide protection to their investor during liquidity risk occur.

7. REFERENCES
Botosan, C. A. (1997). Disclosure level and the cost of equity capital. Accounting review, 323-
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Accounting and Economics, 46(1), 2-22.
Lang, M., & Maffett, M. (2011). Transparency and liquidity uncertainty in crisis periods. Journal
of Accounting and Economics, 52(2), 101-125.
Lambert, R., Leuz, C., & Verrecchia, R. E. (2007). Accounting information, disclosure, and the
cost of capital. Journal of accounting research, 45(2), 385-420.
Ng, J. (2011). The effect of information quality on liquidity risk. Journal of Accounting and
Economics, 52(2), 126-143.
Pastor, L., & Stambaugh, R. F. (2001). Liquidity risk and expected stock returns (No. w8462).
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