Two Theories of Regulation: Overview

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ap Instructor’s Manual—Chapter 13

CHAPTER 13 Standard Setting: Political Issues 13.1 13.2 Overview Two Theories of Regulation 13.2.1 The Public Interest Theory 13.2.2 The Interest Group Theory 13.2.3Which Theory of Regulation Applies to Standard Setting? 13.3 Conflict and Compromise 13.3.1 An Example of Constituency Conflict 13.3.2 Comprehensive Income 13.3.3 Conclusion re Comprehensive income 13.4 13.5 Rules-Based v. Principles-based Accounting Standards Criteria for Standard Setting 13.5.1 Decision Usefulness 13.5.2 Reduction of Information Asymmetry 13.5.3 Economic Consequences of New Standards 13.5.4 The Political Aspects of Standard Setting 13.5.5 Summary 13.6 International Integration of Capital Markets

Copyright © 2009 Pearson Education Canada


Instructor’s Manual—Chapter 13

13.6.1 Convergence of Accounting Standards 13.6.2 Effect of Customs and Institutions on Financial Reporting 13.6.3 Enforcement of Accounting Standards 13.6.4 Benefits of High Quality Accounting Standards 13.6.5 Should Standard Setters Compete? 13.6.6 Summary of Accounting for International Capital Markets Integration 13.7 Conclusions and Summing Up


Section 13.2.2 is oriented to the so-called interest group theory of regulation put forth by Stigler (1971), Posner (1974) and Peltzman (1976). While this theory is quite old now, I find it is still relevant and helpful in thinking about the process of standard setting. Students readily see the distinction between the two theories based on the discussion in Section 13.2. However, for instructors who have the time and inclination to cover regulation in greater depth, the above articles are still worth reading. If assigning one of them, I recommend Peltzman (1976). While one of my conclusions in the chapter is that the interest group theory reasonably describes actual standard-setting processes, the public interest theory should not be discarded, in my view. In this regard, Lev’s (1988) paper is well worth assignment and class discussion. By providing economic arguments for fairness in financial reporting, Lev gives persuasive, and operational, support for the lofty objectives of the public interest theory. Also, it provides food for thought about the distribution of financial accounting information, a topic that was ignored in Chapter 12.

Copyright © 2009 Pearson Education Canada


Instructor’s Manual—Chapter 13


To Examine Constituency Conflict in Action

The material in Section 13.3.1, on the conflict between certain European financial institutions and the IASB over IAS 39 provides a vivid example of the power and influence management can bring to bear when it objects to a new standard. Problem 6 of this chapter pursues some of the issues. A related conflict in the United States is discussed in problem 5. Similar conflict with respect to other standards can easily be found. See, for example, Problem 4 re the furore over the FASB’s standard 123R requiring expensing of employee stock options. 3. To Lay Down Criteria for a Successful Standard

Here, I engage the class in a discussion of the criteria for standard-setting suggested in Section 13.5, arguing that theoretical correctness is not sufficient for successful standard. I then return to the fundamental problem of financial accounting theory introduced in Section 1.7, pointing out that the constituency conflict that characterizes standardsetting illustrates how difficult it is to resolve the problem. Hopefully, however, the book helps the students to see the nature and significance of the problem more clearly. 4. To Introduce Benefits and Challenges of International Convergence of

Accounting Standards International convergence of accounting standards is an important topic in financial reporting these days, and is receiving much research attention. Indeed, the orientation of this edition to IASB standards in...
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