The Effect of the Interaction of Peer Influence and Affect on Budgetary Slack*

ABSTRACT Given the strong financial incentives embedded in participative budgeting, the creation of budgetary slack is prevalent and constant. Research has shown that peer influence is related to budgetary reporting. However, such an effect is likely to be moderated by other factors. We argue that the effect of peer influence on budgetary slack depends on budget‐setters' affect. In an experiment where participants set budgets and work on production tasks, we find that positive affect leads to a greater decrease in budgetary slack under honest peer influence compared to negative affect—specifically, budget‐setters create the least amount when they are in positive affect and peer influence is honest. We also find that participants' moral judgment and moral obligations are negatively associated with the amount of budgetary slack created.