Since the financial crisis in 2008 the topic regulation of the markets at all revived. The world was looking for guilty parties in Rating agencies, financial institutions, governments and lastly audit firms and institutions which gave them their working framework – the accounting standards. On the one hand the scream for more regulation in the private sector to protect the public good became louder and on the other hand scientists were warning of such overbearing steps because they would be damaging the economy.
This issue provides the basis for this paper where accounting is seen as an eco-nomic good. Accounting information is not costless to produce for the corporations and it raises compliance costs. On the one hand managers are using accounting rules that minimize information costs and on the other hand shareholders want ac-counting rules that improve their ability to control and monitor the manager’s action.
Theoretically, financial accounting and reporting should be objective, neutral and apolitical. However, the standard setting process can be influenced by external groups with different interests.
Table of Contents
1. Introduction
2. Literature Review
3. Application & Theory
3.1 Non-Regulation approaches
3.2 Pro-Regulation approaches
3.2.1 Public Interest Theory
3.2.2 Capture Theory
3.2.2.1 The Political Ruling Elite Theory
3.2.2.2 The Economic Theory
4. Conclusion
Research Objectives and Themes
This paper critically examines the diverse theoretical frameworks and practical approaches underpinning standard setting in accounting, specifically in the context of post-2008 regulatory discussions. It investigates the dichotomy between free-market perspectives and interventionist regulation to understand how institutional and political pressures shape financial reporting standards.
- Theoretical analysis of free-market approaches in accounting.
- Examination of pro-regulation frameworks, including Public Interest and Capture Theories.
- Evaluation of the political and economic motivations of interest groups in standard setting.
- Critique of market efficiency assumptions and the role of information asymmetry.
Excerpt from the Book
3.1 Non-Regulation approaches
The main idea in the Free Market approach is that the demand for financial statements comes from users such investors and creditors. (Taylor and Underdown, 1985) Market mechanism would ensure the information published to be prudent. Managers would effort to provide adequate and reliable information to attract investors and therefore to maximize welfare. Related to this fact, the Agency Theory supports the Free Market approach by assuming that individuals seek to maximize their own utility.
According to Watts and Zimmerman (1978) management plays the central role in determination of standards. Furthermore, they argue that managers (agents) self-interest is congruent with that of the share- and bondholders (principals) and that financial reporting constrain managers to act in shareholders’ interest. The management selects accounting procedure to maximize own utility and therefore Watts and Zimmerman (1978) give several factors such as taxes, regulatory procedures, and political costs etc. which affect management wealth. By evaluating these factors in an empirical study they result that managers have greater incentives to choose adequate and reliable accounting standards.
According to Watts and Zimmerman (1979) corporations produced financial statements voluntarily, for example in the US before disclosures became an obligation by government mandate. This means not producing information will be penalized by higher costs of capital, resulting to a good reputation with respect to financial reporting will improve the firm’s ability to raise capital and so to lower firm’s cost of capital – so called Signaling Theory. (Dodd et all, 2000) In addition they argue that even in regulated environments the corporations have direct or indirect contact and influence to regulators and so to the standard setting process. In doing so, unnecessary costs are generated by government intervention.
Summary of Chapters
1. Introduction: This chapter provides the contextual background for the study, highlighting the renewed focus on market regulation following the 2008 financial crisis and the subsequent debate on the role of accounting standards.
2. Literature Review: The literature review defines regulation within an accounting context and establishes the foundational link between economic theories and the standard-setting process.
3. Application & Theory: This central chapter evaluates the opposing paradigms of non-regulation (Free Market approach) and pro-regulation, while deeply analyzing specific models like the Public Interest Theory and Capture Theory.
4. Conclusion: The concluding chapter synthesizes the main findings, emphasizing that unregulated accounting standards rely on unrealistic assumptions of perfect market efficiency and therefore necessitates some form of regulatory framework.
Keywords
Accounting Standards, Standard Setting, Regulation, Free Market Approach, Agency Theory, Public Interest Theory, Capture Theory, Political Ruling Elite Theory, Economic Theory, Financial Reporting, Market Efficiency, Information Asymmetry, Compliance Costs, Interest Groups.
Frequently Asked Questions
What is the primary focus of this paper?
The paper focuses on the critical examination of various theories and approaches used in the setting of financial accounting standards, particularly exploring why and how these standards are regulated.
What are the core thematic areas covered in the text?
The core themes include the debate between free-market mechanisms versus government-led regulation, the role of political influence in setting standards, and the economic motivations of stakeholders involved in the reporting process.
What is the central research question?
The research explores whether accounting regulation is a necessary intervention for market failures or if it introduces unnecessary costs and inefficiencies, and how political interest groups influence these standards.
Which scientific methodology is applied here?
The paper employs a qualitative literature review and analytical framework to contrast different economic and accounting theories, applying them to the historical and institutional context of standard-setting bodies.
What topics are discussed in the main body?
The main body covers the Free Market approach, the Agency Theory, the Public Interest Theory, and variants of the Capture Theory, including the Political Ruling Elite and Economic theories.
Which keywords best describe this study?
Key terms include accounting standards, regulation, free market approach, agency theory, capture theory, and financial reporting.
How does the "Free Rider" problem affect accounting information?
The free-rider problem suggests that because financial information, once disclosed, is available to all, individuals may avoid paying for it, leading to potential underproduction of such information in a purely free market.
Why did the Public Interest Theory lose some of its theoretical dominance?
It faced criticism because empirical evidence showed that regulatory processes often failed to perform as intended, leading researchers to favor alternative models like the Chicago Theory of Regulation.
How does the "Political Ruling Elite Theory" explain standard setting?
It posits that regulated groups use their lobby and political influence to "capture" the regulators, ensuring that the resulting standards serve the interests of those specific parties rather than the general public.
- Quote paper
- MSc Panagiotis Papadopoulos (Author), 2011, Approaches and Theories to standard setting in Accounting, Munich, GRIN Verlag, https://www.hausarbeiten.de/document/182626
