Does Internal Control Quality Constrain the Cash Holding Bias of Overconfident Managers? Evidence from Chinese Listed Firms

Abstract

Managerial overconfidence is an important behavioural factor influencing corporate financial decisions, yet limited evidence exists on the governance mechanisms that can mitigate its consequences. Drawing on agency theory and behavioural finance, this study examines the relationship between managerial overconfidence and corporate cash holdings and investigates the moderating role of internal control quality. Using a panel dataset of 768 Chinese A-share listed firms comprising 7,137 firm-year observations from 2015 to 2024, the study employs fixed-effects regression and System Generalized Method of Moments (System-GMM) estimation to address potential endogeneity. The findings indicate that managerial overconfidence is positively associated with corporate cash holdings, suggesting that overconfident managers tend to retain higher liquidity. More importantly, internal control quality significantly weakens this relationship, indicating that effective internal control systems constrain managerial behavioural bias and improve corporate financial decision-making. The results remain robust across alternative measures of managerial overconfidence and additional robustness tests. This study extends the behavioural finance and corporate governance literature by identifying internal control quality as an important governance mechanism that disciplines managerial overconfidence and enhances corporate liquidity management. The findings provide practical implications for boards of directors, regulators, and policymakers seeking to strengthen internal governance and improve corporate financial policies.