Rethinking Financial Reporting: Standards, Norms and Institutions

Abstract

Since the passage of the US federal securities laws more than eight decades ago, much regulatory effort has been devoted to improving financial reporting in business, government and not-for-profit organizations. Yet, evidence on improvements or abatement of misreporting by error or intent remains scarce. In the context of this experience, it may be useful to explore what we might mean by better financial reporting, and how we might define and implement processes to move in that direction. A broad agreement on the way ahead seems necessary to make progress.

Creating and sustaining institutions that follow a stable and conservative process for gradually adjusting the prevailing practices toward any long-term shifts may help evolve a better financial reporting environment. This approach departs from the tendency to issue new rules, often disregarding the lessons of practice that has created much confusion and failures in financial reporting over the past half-a-century. The eagerness to deal with transaction innovations through new pronouncements ends up fueling the cycle of more innovations, misrepresentations and abuse. The enormous resources and attention devoted to written rules have been accompanied by waning professional responsibility for good judgment and regard for practice and practicality. This work argues for targeting a better balance between top-down written rules and emergent social norms as reflected in business and accounting practice through restraining activist institutions of accounting. Suggestions from exploration of whether and how better social norms can be engineered are only preliminary at this time.

Keywords: improved financial reporting, institutions, social norms, regulatory arms race

JEL Classification: G18, G28, G38, M41