Economic consequences(PPT 18)

EconomicconsequencesShanghaiUniversityofFinanceandEconomicsYUANHONGQIDIFINITIONZeff(1978):theimpactofaccountingreportsonthedecisionmakingbehaviorofbusiness,governmentandcreditorsTheessentialoftheconceptisthattheaccountingpolicychoicecanaffectthefirmvalue.TheisanoppositeviewtotheimplicationofEMH.ManagementisignoredinEMHwhileemphasizedineconomicconsequences.Ifachangeofaccountingpolicyaffecttheinterestofmanagementitwillalsohaveinfluenceontheinvestorsdirectly.Allaccountingpolicywillmatterdespitelakeofcashfloweffectswhyeconomicconsequenceisimportant?ManyofinterestingeventsinaccountingpracticederivefromECAccountingchoicedoesn’tmatterisoddswithpracticeexperiences.TheresearchonthereasonsofECleadstoseveralimportantaccountingtheorybranches.TheriseofECtheaccountingstandard-settingisapoliticalprocessratherthananeutralprocessawell-definedconceptofnetincomeisnotexistandthisgiveotherconstituenciesaexcusetointerveneaccountingstandards.third-partyintervention:thechoiceofaccountingpolicyaffecttheinterestofvariousconstituencies•broadeningtherepresentationonthestandard-settingbody•usingexposuredrafttoallowvariousconstituenciestocommentonproposedaccountingpolicychangesIllustrationofEconomicConsequencesForeignExchangeTranslationtheInvestmentTaxCredit(ITC)Full-costmethodorSuccessful-effortsmethodForeignExchangeTranslationthequestionishowtodealwiththegainsandlossesfromchangesinexchangeratestwotypesofgainsandlossestransactiongainsandlossesarerealizedtranslationgainsandlossesarenotberealizedSFAS8(1975)Useoftemporalmethoddistinctionbetweennonmonetaryandmonetaryitemsnonmonetaryitems:historicalratemonetaryitems:currentratetranslationadjustmentsincludedinnetincome,managementcouldn’tcontrolthiskindofimpactSFAS52(1981)Functionalcurrencyself-sustainingsubsidiaryvs.Integratedforeignoperationsubsidiarywasaseparateoperationandparent’sexposureisequaltoitsnetinvestmentforself-sustainingsubsidiarycurrentratetranslationmethodtranslationadjustmentsrecognizedasshareholders’equityforintegratedforeignoperationandhighlyinflationaryeconomies:temporalmethod(why?)economictheoriesofexchangeratedetermination(1)purchasingpower(PP)PARITYAcurrencyrepresentsPPovergoodsandservicesmarketforceswilloperateontheexchangeratessoastokeepPPconstantacrossdifferentcountriesthetheoryalsoappliestoinflationaryeconomiesempiricaltestssupporttheviewreasonablywellinthelongruneconomictheoriesofexchangeratedetermination(2)interestrate(IR)parityhigherinterestratesofacountrywillencouragecapitalflowsintothatcountry,thiscreatesademandforthatcountry’scurrencyandahighervalueforthatcountrydistinctionbetweentwotheoriesPPparitytheory:flowsofgoodsandservicesIRparitytheory:capitalflowsimplicationsoftwotheoriesfortranslationadjustmentsSFAS8wasconsistentwithPPparitytheory(nonmotaryitems)and,toalesserextent,withIRparitytheory(monetaryitems)thefactthatnotranslationgainsorlosseswererecognizedwithrespecttonon-monetaryassetsseemedconsistentwithPPtheoryinclusionoftranslationgainsorlossesonnetmonetaryliabilitiessupportedIRtheorynomuchconnectionbetweeneconomictheoryandSFAS52whySFAS8receivedsomuchcriticism?Thekeyproblemwasthatthetranslationadjustmentswereunrealizedbutincludedinnetincome.Thetreatmentwasinconsistentwithgenerallyacceptedhistoricalcostaccounting.Realizationoftranslationgainsorlosseswouldtakealongtime.Inclusionofunrealizedgainsorlossesinincomeintroducedavolatileanduncontrollableelementthetreatmentimprovedtherelevanceoftheinformationwhileignoredthereliability.ERCsofmultinationalfirmstheempiricalproblemwaswhethertheSFAS8orSFAS52improvetheusefulnessofaccountinginformationresearchbyCollinsandSalatka(1993):theythinkthenoiseeffectdominateintheempiricaltestsfourhypothesisH1:duringtheSFAS8period,theERCsofmultinationalfirmswouldbelowerthantheERCsofthesamefirmsduringSFAS52.H2:theERCsofcontrolsamplesshouldbeconstantduringtheperiodofSFAS8andSFAS52.H3:duringtheSFAS8period,theERCsofthemultinationalfirmsshouldbelowerthanthoseofthecontrolfirmsH4:duringtheSFAS52period,theERCsofthemultinationalfirmsshouldbethesameasthoseofthecontrolfirmsresultsofresearchbyCollinsandSalatka(1993)theresearchersadmittedtheresultsprovidedweakevidencethroughtheevidencewasconsistentwiththreeoftheirfourpredictions.ReasonsofweakevidencenocontrolsamplethatisidenticaltothemultinationalsampleinallrespectsexcepttheapplicabilityofSFAS8.MaybethequalityofSFAS8earningswasnotasbadasCollinsandSalatkasuggest.TheresearchprovedaninformationexampleofhowempiricalERCmethodologycanbeusedtoresolveacomplexandcontroversialaccountingpolicyissue.IllustrationofEC--TheInvestmentTaxCredit(ITC)FourwaystoaccountfortheITCAPB2(1962):alternative2or3SEC(1963):eithertheAPB2orthe48-52%methodSECfeltAPB2objectedtobyenoughfirmsAPB4(1964):APB2asthepreferredmethodbutalsoallowedtheITCtobebroughtintoincomecurrently•regulatedpublicutilityindustryFC(full-costmethod)orSE(successful-effortsmethod)inoilandgasindustrysmalloilandgasfirmspreferFCtoSELEV(1977)Studyconcern:FCorSESFAS19(1977),allU.S.Oilandgasfirm