Question

outline the factors which have been used to explain why historically there has been diversity in accounting practices internationally

Answer 1

REASONS FOR ACCOUNTING DIVERSITY

Why do financial reporting practices differ across countries? Accounting scholars have hypothesized numerous influences on a country’s accounting system, including factors as varied as the nature of the political system, the stage of economic development, and the state of accounting education and research. A survey of the relevant literature has identified the following five items as being commonly accepted as factors influencing a country’s financial reporting practices: legal system, taxation, providers of financing, inflation, and political and economic ties.  

1. Legal System

There are two major types of legal systems used around the world: common law and codified Roman law. Common law began in England and is primarily found in the English-speaking countries of the world. Common law countries rely on a limited amount of statute law, which is then interpreted by the courts. Court decisions establish precedents, thereby developing case law that supplements the statutes. A system of code law, followed in most non-English-speaking countries, originated in the Roman jus civile and was developed further in European universities during the Middle Ages. Code law countries tend to have relatively more statute or codified law governing a wider range of human activity. What does a country’s legal system have to do with accounting? Code law countries generally have corporation law (sometimes called a commercial code or companies act), which establishes the basic legal parameters governing business enterprises. The corporation law often stipulates which financial statements must be published in accordance with a prescribed format. Additional accounting measurement and disclosure rules are included in an accounting law debated and passed by the national legislature. In countries where accounting rules are legislated, the accounting profession tends to have little influence on the development of accounting standards

2. Taxation

In some countries, published financial statements form the basis for taxation, whereas in other countries, financial statements are adjusted for tax purposes and submitted to the government separately from the reports sent to stockholders. Continuing to focus on Germany, the so-called congruency principle (Massgeblichkeitsprinzip) in that country stipulates that the published financial statements serve as the basis for taxable income.

3. Providers of Financing

The major providers of financing for business enterprises are family members, banks, governments, and shareholders. In those countries in which company financing is dominated by families, banks, or the state, there will be less pressure for public accountability and information disclosure.

Inflation

Countries experiencing chronic high rates of inflation found it necessary to adopt accounting rules that required the inflation adjustment of historical cost amounts. This was especially true in Latin America, which as a region has had more inflation than any other part of the world. For example, throughout the 1980s and 1990s, the average annual rate of inflation rate in Mexico was approximately 50 percent, with a high of 159 percent in 1987. Double- and triple-digit inflation rates render historical costs meaningless. Throughout most of the latter half of the 20th century, this factor primarily distinguished Latin America from the rest of the world with regard to accounting. Adjusting accounting records for inflation results in a write-up of assets and therefore related expenses. Adjusting income for inflation is especially important in those countries in which accounting statements serve as the basis for taxation; otherwise, companies will be paying taxes on fictitious profits.  

5. Political and Economic Ties

Accounting is a technology that can be relatively easily borrowed from or imposed on another country. Through political and economic links, accounting rules have been conveyed from one country to another. For example, through previous colonialism, both England and France have transferred their accounting frameworks to a variety of countries around the world. British-style accounting systems can be found in countries as far-flung as Australia and Zimbabwe. French accounting is prevalent in the former French colonies of western Africa. More recently, it is thought that economic ties with the United States have had an impact on accounting in Canada, Mexico, and Israel.  

6. Correlation of Factors

Whether by coincidence or not, there is a high degree of correlation between legal system, tax conformity, and source of financing. Common law countries tend to have greater numbers of domestic listed companies, relying more heavily on equity as a source of capital. Code law countries tend to link taxation to accounting statements and rely less on financing provided by shareholders.