2.13 Drivers for the creation of global financial reporting regulation and drivers for domestic financial reporting regulation

The drivers for international and national financial regulation are not the same. The development of international financial regulation originated from the globalization of trade, when companies started to grow beyond borders. Globalization, growing international capital markets and growing financial interdependency led to the need of controlling international trade and business relations between organizations. In the 19th century, as common practice, companies would disclose information at their own discretion, keeping some crucial information away from the public. As we saw earlier in this chapter, on an international level, the harmonization of accounting standards came as a result of the growing mobility of capital and with the introduction of stock exchanges.1

However, it was only after the financial crash of 1929 that transparency had a significant increase through the SEC and the Securities Act in 1933.2 National financial regulation was triggered and strengthened after a financial crisis had occurred as a measure of mitigation and sometimes prevention of new crisis. National financial regulation is usually originated from a particular financial context, obeying to national financial market’s specificities, a particular financial culture and standard practices where the governmental organizations are the only supervising bodies. Financial accounting is shaped by economics and by politics.3 As pointed-out by Ball, R. 2005, there has been a “revolutionary internationalization of both markets and politics, and inevitably this creates a demand for international convergence in financial reporting.”

The creation of the EU was a step towards increased globalization. Globalization triggers higher competition, the advancement of technology and pressure to get information faster and earlier.4 Europe has a common currency, a European legal framework developed, among others, for trade, finance, transportation of people and goods, abolition of boarders, taxes, banking and insurance. Twenty-eight European countries are subject to European law and supranational agreements. Business is currently made in an international globalized market, where real-time information is exchanged, different currencies are traded and where individuals, goods and services are fully interdependent. In the corporate sector the stakes are too high to be limited to national financial reporting regulation and international financial integration is crucial to the well-functioning of capital markets.5 The policy on capital controls, the level of economic and educational development, economic growth, institutional and legal environment, trade openness, financial development and tax policy are all potential drivers for international financial integration.6 Aiming at promoting international investment, countries tend to remove restrictions on cross-border capital movement, deregulate domestic financial markets and offer competitive investment environments. These conditions have contributed to the growth of international financial integration particularly since the past two decades.7

In 1976, the International Accounting Standards Committee chairman, Sir Henry Benson, stepped down and during his speech said that: “the step from national standards to international standards looks to be a short one but it has grievous pitfalls. Nationals of every country prefer their own ways just as they prefer their own food, wine and customs. There is an even more formidable obstacle: national governments. No government will willingly give-up its sovereignty and yield the right to decide what will happen in its own country.”8

Capital markets are increasingly global but in practice, incentives of among others, politicians, auditors, regulators and rating agencies remain primarily local, attending primarily to local demands and interests.9 As alerted by Ball, R. (2005) converged financial standards do not guarantee uniformity of standards, there may still be divergence in the interpretation adding to the lack of an effective worldwide enforcement mechanism.

One disadvantage of standards-setting by Governments is the fact that these are expected to be influenced by both political pressure of a given Government and by professional judgment.10 These authors refer to some successful examples of interference with the standard-setting procedures.11 Besides, the bureaucratic nature of Government agencies often leads to higher costs and it is time consuming. The bureaucratic procedures also may lead to more rules-based standards which may be counterproductive and less informative, as pointed-out by Benston, et al. pp. 43 (2006).

International organizations are recognized to be “widely representative organizations” when compared to the former private professional accounting setters.12 These authors give a few reasons to justify it. Among which, I would like to draw special attention to the lack of political authority of private professional accounting organizations and therefore, the lack of legitimacy to enforce their own standards; when compared with international standards setters as the International Accounting Standards Board, private organizations seemed to deliver slowly and tended to favor the auditors. The International Accounting Standards Board and the Financial Accounting Standards Board are meant to deliver to a large number of stakeholders and therefore, are better protected from third-party influences on the standards development.

Can international standards be a first step for the development of national legislation? Yes, international standards can be a first step for the development of national legislation, as it is equally possible that national legislation will be a basis for the development of international standards. However, both paths present different speeds of development, of engagement, of reaching a mainstream and harmonized reporting framework. Looking at the development of financial accounting regulation as the IFRS, we saw that from the moment these standards were endorsed by the EU, they acquired credibility, internationalization, reaching beyond the EU and gained legitimacy to be considered an international financial standard. All achieved in a short period of time after the EU’s formal endorsement of the IFRS. Developing standards on a national level as a starting point may be seen as a positive development too. I would say that when there is no international and globally accepted reporting framework it is certainly better to report on a national level than not reporting at all. National reporting initiatives and practices are a contribution to the mainstream of a given framework and a step forward in its development. As national organizations, companies and businesses get acquainted and practice reporting within their borders. However, it is likely to be a slower process and possibly has limited reach when compared to the international development of standards.