Improvement in Capital Market Efficiency - Term Paper Example

Contents Contents Introduction 2 Advantages of adopting IFRS 4 1. Reduction in cost of financial reporting 4 2. Improvement in capital market efficiency 6 1.3. Attraction of new investors 7 1.4. Increase of efficiency of Australian companies 8 2. Disadvantages of adopting IFRS 10 2.1. Uncertainty in accounting standards 10 2.2. High costs of the reform 11 2.3. The expansion of the US influence on global economy 12 2.4. The inconsistency of IFRS 13 Conclusion 14 Works cited 15 Introduction It is evident that financial reporting is one of the crucial elements of financial system and economical stability of a particular country. Financial reporting and accounting standards are responsible for the interaction between the firm, its potential and actual investors, these standards are the basis for economical evaluation of the firm's economical position and competitive ability. The government of any country needs to introduce and support efficient accounting system, monitor its correspondence with the actual financial situation, with the demands of political and economical situation within the country. One of the international bodies that deal with interaction of different accounting standards is the International Accounting Standards Committee (IASC); this institution uses the system of International Financial Reporting Standards (IFRS). IASC has seven members which "have formal liaison responsibilities with the national standard-setters in their respective countries" (Carrol and Dixon, 2003). These countries are the United States, Canada, the United Kingdom, France, Germany, Japan, Australia and New Zealand (the last two being represented by the same liaison member). Earlier the Australian Financial Reporting Council supported the policy of international harmonization in the sphere of accounting standards; Australian government launched one of the most effective programs of compliance with the IFRS in the world; at the same time Australia had a very developed accounting system which allowed to effectively monitor the firm's condition. However, recently the Australian Financial Reporting Council (AFRC) proclaimed the policy of adoption of IFRS. Such radical change has caused a lot of debates whether this decision will be a benefit to Australia or will worsen its position. This essay is dedicated to analysis of advantages and disadvantages of the AFRC's decision. Advantages of adopting IFRS 1.1. Reduction in cost of financial reporting Since globalization is one of the main tendencies in international economy, the interaction between Australian companies and foreign firms is increasing. It is common knowledge that volumes of international trade are growing rather in geometrical than in arithmetical progression. The countries which will be the first to open their economies to international trade, will receive the chance for significant economical growth. One of the necessary demands of international trade is the compliance of accounting standards and maximal ease of financial reporting. Adoption of IFRS, according to Collett et al. (2001), will lead to the increase of capital flow to the national market, and will also give the possibility to export the capital to other countries with lower cost for this and with simplified procedure. On one hand, these arguments are evident; the increased flow of capital is likely to benefit economical growth of the country. On the other hand, the expansion of foreign capital means a challenge to the national companies; it can also be doubted that national capital will quickly flow to other countries; this can be true only for countries with less developed economical and financial system than the Australian one. In my opinion, it is difficult to determine whether this argument belongs to advantages or disadvantages of IFRS adoption since the flows of capital depend on many other factors. 1.2. Improvement in capital market efficiency There exists an opinion that adoption of IFRS will lead to better accuracy of capital pricing and to higher efficiency of Australian capital market by setting globally accepted, high quality, comparable and transparent accounting standards" (Howieson & Langfield-Smith, 2003). Indeed, the adoption of new standards will enable capital to flow easier and faster within the world community; from this point of view the decision of the AFRC is justified, because it leads to higher capital efficiency. Capital can be attracted to the country at a lower cost, it leads to additional flow of capital within the national economy which can then be exported (again at a lower cost) and invested into other nations' production, thus benefiting the country both in short term period and in the long term period. In my opinion, such capital efficiency which is one of the key economical variables needs to be maximized by the government. Hence, from this point of view the adoption of IFRS represents a positive tendency for the country. 1.3. Attraction of new investors The unified standards will increase the attractiveness of Australian firms to foreign investors (Zeff, 2002), since the costs of financial reporting for multinational companies and for cooperating forms will be significantly reduced. Indeed, the adoption of new standards is practically equal to opening barriers for international cooperation. On one hand, the production will receive significant investments; but on the other hand, monetary policy states that there must exist equilibrium between capital flows and production level; such rapid inflow of capital may cause economical misbalance. Moreover, the increase of foreign sector's importance in the national economy will be representing a challenge for national companies. Small firms are also likely to be in dangerous situation. In this case other factors (such as monetary and fiscal policy, the balance of international and local law, the stability of national currency etc.) play an important role or future economical development of the country. In my opinion, Australia benefits from the adoption of new standards because it gains the status of a country open for international investments; but such change can be positive only for a very strong economical and financial situation combined with well-thought governmental actions. 1.4. Increase of efficiency of Australian companies The application of global standards will not only open Australian capital market for inflows, but will add competitive ability to the national companies. The positive opinion of international community will benefit to Australian international image and will make its companies more popular throughout the world. The reduction of efforts on financial reporting and international cooperation will enable the direction of the companies to make new steps, introduce new technologies, and finally, increase cooperation between the international companies and national ones. On the other hand, the shift from national market to global market will require a lot of time, whereas international companies trading worldwide will act at once and try to "conquer" Australian market from the first days of adopting new standards. Also, the adoption of new standards will require additional cost and training for the workers of virtually every national company. Taking into account that a completely different program of compliance between national and IASC's accounting standards has been launched, the conclusion concerning this argument is the following: the loss of finance during this shift can be more significant than gins in the short period; however, there are benefits in the long period. In general, this argument indeed represents a positive application of worldwide standards, but before introducing these standards the government needed to make a lot of preparatory work, and should not make a rapid shift from one policy to another. 2. Disadvantages of adopting IFRS 2.1. Uncertainty in accounting standards By the time when Australian Financial Reporting Council decided to adopt the IFRS, there was a certain set of standards but the directors of IASC were at the stage of deciding which set of standards should be adopted as international. In fact, there was no clear agreement on what should be considered "global standards". The IASC launched the process of choosing the concept and specification of it with compliance of different countries' needs. However, this process created an uncertainty in IASC's standards and a lot of criticism of these standards is based on this very uncertainty. Judging from this position, the AFRC extended the uncertainty to national accounting system by adopting the new standards. On the other hand, the dynamic process of establishing standards that deserve to be called global, is a long and continuous process. Different countries have different economical systems, different historical backgrounds, different production structure and capital structure; and I believe that the very idea of creating a totally acceptable accounting standard can be rather difficult to put into life. However, if the government wants the country to be open to international trade (which, as it has been mentioned before, leads to a significant competitive advantage), it is necessary to try to integrate into the existing standards. 2.2. High costs of the reform The shift to new standards required substantial capital inputs; this decision has weakened the country's economical position. The need to retrain accounting specialists also required every company to invest into this retraining; in macro-economical understanding this means the reduction of capital investments in products and services and the increase of capital investments into training and other aspects of shifting to new standards. Moreover, before this decision, as it has been mentioned before, a lot of investment and research have been done into the field of creating the compliance between Australian accounting system and the IASC's one. In these conditions the radical change of standards seems unjustified. In my opinion, the AFRC performed a too radical change and therefore created rather a negative than positive environment for the national companies. It is known that any radical changes at macro level lead to instability, inflation and other negative economical consequences. 2.3. The expansion of the US influence on global economy In fact, the standards used by IASC are the accounting standards used in the US. Whereas the previous policy of AFRC created a basis for efficient international cooperation, the adoption of new standards means opening the market to US firms and therefore this decision benefits to US business activity rather to Australian or international one. Ravlic, 2003 states that "financial reporting scandals associated with the Enron and WorldCom collapses jolted the US business community out of a complacent belief in the superiority of its accounting standards. This sparked a highly charged interest in influencing the nature and content of International Standards to bolster the reputation of US domestic standards". Such contribution to the US dominant position and opening the markets for the invasion of US companies cannot be called a good decision of the government. On the other hand, Australia has a rather developed and stable economical system, and it may happen that cooperation with international firms, especially with the US ones, will contribute to the growth of domestic GDP and financial stability. In my opinion, everything depends on future decisions of Australian government. However, his decision was not a benefit for the world community because it significantly increased the financial domination of the US. 2.4. The inconsistency of IFRS Despite the uncertainty created by variety of global standards, which was mentioned in section 2.1, there is a question whether global standards can at all be applied to the needs of Australian companies. "This question-whether supranational standards are compatible with accountability in a democratic system-is particularly relevant if one considers that accounting standards have wider implications than mere confidence in corporate accounting data and the efficiency of financial markets" (Crouzet, 2002). In my opinion, the decision to switch to international accounting standards was not justified because of the historical and economical peculiarities of the Australian system; national accounting standards have evolved during a long historical process and reflected the features of national economy. Accepting the international standards in this case was like trying to use economical decisions of one country for another: history has taught us that decisions, which have successfully worked on one background, were of no use in other circumstances. The same can be said about accounting standards. Conclusion After a close analysis of advantages and disadvantages of new standards, I have come to the conclusion that currently the adoption of these standards is unjustified, and will rather harm the economical well-being of the country than contribute to its development. The rapid and not backed by pre-calculations actions of the AFRC were not the right decision; I believe that though the shift to new standards was necessary and was conditioned by the demands of globalization and world economical development, all the changes needed to be slow and continual. The government can improve the situation by various means, but any other radical changes will lead to economical and financial instability. In general, working out of accounting standards does not have to be left solely to accounting professionals; since financial reporting is the key to economical cooperation both within and outside the country, the decisions concerning global accounting have to remain the prerogative of the government, not that of the AFRC. Works cited Alfredson, K. (2003). Pathway to 2005 IASB standards. Australian Accounting Review 13(1), 3-8 Blainey, G. (2001). This land is all horizons. Australian fears and visions. ABC books. Sydney. Buffini, F. (2003). Accounting chief slams standards. Australian Financial Review, 5 August. Sydney. Carrol, N. & Dixon, J. (2003). Is the big bang the right approach, Australian CPA, April. www.cpaaustralia.com.au Collett, P.H., Godfrey, J.M., & Hrasky, S.L. (2001). International harmonization: cautions from the Australian experience. Accounting Horizons, 15(2), 171-181. Day, P. (2002). Closing the gap. Australian CPA, November. FRC, 2002a, "Adoption of International Accounting Standards by 2005", Bulletin of the Financial Reporting Council 2002(4): 1 - 3, http://www.frc.gov.au/content/bulletins.asp. Haswell, S. & McKinnon, J. (2003). IASB standards for Australia by 2005: Catapult or Trojan Horse. Australian Accounting Review, 13(1), 8-16. Howieson, B. & Langfield -Smith, I. (2003). The FRC and accounting standard-setting: should I still call Australia home. Australian Accounting Review, 13(1), 17-26. IASB (International Accounting Standards Board) press release (2003). Proposed new accounting interpretation- greenhouse gas emissions. IASB, 15 May. Spencer, K. (1998). The view from the AASB: take it easy, get it right. Australian Accountant. March, 20-22. Zeff, S.A. (2002). "Political" lobbying on proposed standards: a challenge to the IASB. Accounting Horizons, 16(1), 43-54. Read More