The audit policy of a tax authority can signal its audit effectiveness. We model this process and show that in limited circumstances an ineffective authority can masquerade as being effective. We show that high maximal penalties imply underreporting of income

A broad array of law enforcement strategies, from income tax to bank regulation, involve self-reporting by regulated agents and auditing of some fraction of the reports by the regulating bureau. Standard models of self-reporting strategies assume that although bureaus only have estimates of the...