nep-acc New Economics Papers
on Accounting and Auditing
Issue of 2021‒03‒22
seven papers chosen by
Alexander Harin
Modern University for the Humanities

  1. Corporate Misconduct and the Impact of Market Forces, Regulatory Change, and Auditor-Provided Services By Friedrich, Christian
  2. Do tax loss restrictions distort venture capital funding of start-ups? By Bührle, Anna Theresa
  3. Optimal Taxation of Normal and Excess Returns to Risky Assets By Robin Boadway; Kevin Spiritus
  4. Venture Capital and Startup Innovation --Big Data Analysis of Patent Data-- By WASHIMI Kazuaki
  5. Redesigning EU fiscal rules: From rules to standards By Olivier J Blanchard; Ã lvaro Leandro; Jeromin Zettelmeyer
  6. Information Provision, Incentives, and Attention: A Field Experiment on Facilitating and Influencing Managers' Decisions By Manthei, Kathrin; Sliwka, Dirk; Vogelsang, Timo
  7. The independence of economic authorities and supervisors. The case of the Banco de España. Testimony by the Governor of the Banco de España before the Audit Committee on Democratic Quality / Congress of Deputies, 22 December 2020 By Pablo Hernández de Cos

  1. By: Friedrich, Christian
    Abstract: My dissertation addresses the fundamental economic question of whether regulation that restricts free markets can reduce corporate misconduct. I investigate different aspects of this issue in four related papers. They use different theories that all relate to basic economic decision-making theory. If the expected benefits of rule-abiding behavior or the expected costs of misconduct increase, decision-makers tend to develop a greater preference for rule-abiding behavior over misconduct and vice versa. Conversely, if the expected benefits of misconduct or the expected costs of rule-abiding behavior increase, decision-makers prefer misconduct. I study three forces, for which I argue that they may influence the balance of these four groups of benefits and costs. The two ends of a spectrum of regulation, regulatory changes and free market forces, can each shape the expectations of the decision-maker. As a third force, the auditor as a monitor in markets with information asymmetries can curb misconduct emerging from the abuse of these asymmetries. Because both regulation and free markets also shape auditor behavior, auditor-provided services are an indirect, third channel, through which the first two forces also affect behavior. In my first paper, I conduct an experiment on perceptions of managers regarding misconduct punishment. I ask 71 board members of German listed companies about their expectations of detection likelihood and punishment severity upon detection. My findings suggest that detection perceptions are larger than estimates of factual detection likelihood from prior literature. However, managers underestimate both individual and organizational punishment severity. In an experiment with only 28 of the board members, I further find that teaching them about factual losses in market value for fraudulent firms decreases their tendency to commit misconduct. However, this is not the case when I also teach them about factual individual consequences for the perpetrator. In conclusion, I find that existing market forces are surprisingly strong, but biased perceptions make them ineffective. The second paper is an in-depth qualitative study of how non-financial firms install anti-money laundering systems. Based on interviews in eight multinational organizations, I develop a Grounded Theory of the implementation process. A key takeaway is that the implementation benefits from clear regulatory structure and guidance. While I find that similar guidance can emerge among peers in the free market, I find some clear indications that regulation is important for effective systems designed to curb misconduct in this case. My third paper contains another experiment. It studies reactions of 128 private investors to a company that suspects misconduct internally when internal investigation and public detection are certain. The company can either obtain a credibility signal from using forensic services from a Big 4 to investigate or investigate with internal audit. The issue and investigation become public either by self-disclosure of the company or a press article. I find that, when the company engages the forensic services, self-disclosure improves investor perceptions over press disclosure. With the internal audit investigation, this is not the case. In the context of this dissertation, the unregulated market for forensic accounting can thus provide an improvement for investors and arguably the public (through greater transparency) under the strong assumptions of certain investigation and detection. The fourth and final paper contains an archival analysis of two non-audit service scandals of KPMG. I aim to study whether, through reputation effects, the negative signals from these scandals spill over to the audit practice of KPMG. If this were the case, it would suggest that some market forces are strong enough to deter misconduct even across the different domains in which a company is active. In a short-term event study, I find abnormal negative returns for the average KPMG audit client. However, in longer-term analysis, I find that KPMG does not significantly lose clients or gain fewer clients in the first year after the scandals. Similarly, audit fees do not change. However, for the second scandal, there is some evidence that audit quality suffers. In conclusion, I infer a small reputation spillover from my results that has no substantial economic consequences for KPMG.
    Date: 2021
  2. By: Bührle, Anna Theresa
    Abstract: Anti-tax loss trafficking rules disallow the use of loss carryforwards after a change in ownership or activity (such as significant changes in turnover, employment, or the product portfolio). This restriction could threaten accumulated loss carryforwards of start-ups. Accounting for the increased risk and reduced return on their investment, VC investors could reduce their funding. I analyze whether the venture capital (VC) funding of start-ups in Europe is affected by these regulations. I base my empirical analysis on several case studies and a panel analysis covering VC- funded companies in the EU28 Member States from 1999 to 2014. My findings suggest that strict anti-tax loss trafficking rules indeed impair VC funding. Especially more mature companies and companies in high-tech industries are affected.
    Keywords: Venture capital,taxes,loss carryforward,start-ups,anti-tax loss trafficking
    JEL: M13 G24 H25
    Date: 2021
  3. By: Robin Boadway (Department of Economics, Queen's University); Kevin Spiritus (Department of Economics, Erasmus University Rotterdam)
    Abstract: We study the optimal taxation of risk-free and excess capital income with heterogeneous rates of return, alongside an optimal nonlinear earnings tax. Households can hold three assets: one risk-free, one risky but diversifiable, and one a private investment with idiosyncratic risk whose expected return differs among households. Contrary to expectations, the optimal tax on excess returns to risky assets is ineffective for redistribution, because its effects are annulled by a Domar-Musgrave effect. It assumes only an insurance role, and is positive. The optimal tax on risk-free returns does fulfill a redistributive role, insofar the risk-free returns reveal information about the investors' types beyond what is revealed by the earnings tax base. The optimal nonlinear earnings tax takes the standard Mirrleesian form amended to take account of the stochasticity of capital income tax revenue.
    Keywords: optimal capital taxation, Rate-of-Return Allowance, risk, excess returns
    JEL: H21 H23 H24
    Date: 2021–03–18
  4. By: WASHIMI Kazuaki (Bank of Japan)
    Abstract: With the declining birthrate and ageing population and a decline in the working age population in Japan, Japanese firms face the need to strengthen innovation including the digital domain. Expectations are particularly high for startups as they play a vital role in creating innovative technology. In recent years, there have been a number of initiatives such as expediting patent examinations and introducing an open innovation tax incentive in Japan. It is expected that venture capital (VC) funds will play a pivotal role in providing financing for growth so that startups can continue research and development. On the other hand, due in part to data constraints, there has been limited research on startup innovation on a comprehensive scale and virtually no earlier literature on the impact of VC investments on innovation by portfolio companies in Japan. This paper summarizes those two issues with a focus on the number of patent applications as a proxy for innovation, and it also discusses challenges that lie ahead. First, taking a look at patent applications by startups, around 40 percent of startups have applied for a patent—albeit with significant variation across firms—which appears a much higher proportion than existing firms. An estimate of the impact of VC investments on innovation suggests that in about 60 percent of cases, the number of patent applications by portfolio companies significantly increased compared to a control group. While care should be taken in interpreting those studies as the results vary from firm to firm, these successful cases reflect the possibility that financing and management support including intellectual property management from VC funds could have contributed to an increase in patent applications. Challenges ahead include: (1) expanding investments in VC funds by institutional investors; (2) increasing opportunities for startups to go public in a way that encourages sustainable growth; and (3) establishing intellectual property strategies while maintaining and developing professional human resources in relevant areas.
    Keywords: Venture Capital; Innovation; Synthetic Control; Bayesian Structural Time Series
    JEL: G24 M13 O3
    Date: 2021–03–12
  5. By: Olivier J Blanchard (Peterson Institute for International Economics); Ã lvaro Leandro (CaixaBank Research); Jeromin Zettelmeyer (Peterson Institute for International Economics)
    Abstract: The European Union’s fiscal rules have been suspended until at least the end of 2021. When they are reinstated, they will need to be modified, if only because of the high levels of debt. Proposals have been made—and more are to come—suggesting various changes and simplifications. Blanchard, Leandro, and Zettelmeyer take a step back and discuss how one should think about debt sustainability in the current and likely future EU economic environment. They argue that, given the complexity of the answer, it is an illusion to think that EU fiscal rules can be simple. But it is also an illusion to think that they can ever be complex enough to accommodate most relevant contingencies. Instead, the authors propose abandoning fiscal rules in favor of fiscal standards, i.e., qualitative prescriptions that leave room for judgment together with a process to decide whether the standards are met. Central to this process would be country-specific assessments using stochastic debt sustainability analysis, led by national independent fiscal councils and/or the European Commission. Disputes between member states and the European Commission on application of the standards should preferably be adjudicated by an independent institution, such as the European Court of Justice (or a specialized chamber), rather than by the Council of the European Union.
    Keywords: interest rates, fiscal policy, public debt, primary balance, fiscal deficit, fiscal rules, fiscal governance, fiscal standards, debt sustainability analysis
    JEL: E62 F42 H60 H61 H62 H63
    Date: 2021–02
  6. By: Manthei, Kathrin (RFH Koeln); Sliwka, Dirk (University of Cologne); Vogelsang, Timo (Frankfurt School of Finance and Management)
    Abstract: The core role of managerial accounting is to provide information to facilitate managers' decisions and influence their behavior through incentives. We study the impact of these two roles of information on profits by implementing a field experiment in a large retail chain. In a 2 × 2 factorial design, we vary: (i) whether store managers obtain access to decision-facilitating accounting information on the profit margins of individual products and (ii) whether they receive performance pay based on an objective profit metric to influence their decisions. We find that both practices increase profits significantly, albeit through different behavioral channels. In particular, managers make use of the information provided by placing higher-margin products, thereby raising the gross profit margin. While we hypothesized a priori that both practices are complements, we find that the profit increases induced by the combined intervention do not significantly exceed those of the separate interventions. We attribute this finding to an attention-directing role of the interventions toward the objective of raising profits, thereby inducing a countervailing substitution effect. We show that this effect fades over time such that the combined intervention tends to induce more persistent profit increases.
    Keywords: management controls, performance pay, monetary incentives, decision-facilitating, decision-influencing, accounting information, field experiment, complementarity
    JEL: J33 M52 C93
    Date: 2021–03
  7. By: Pablo Hernández de Cos (Banco de España)
    Abstract: In his testimony, the Governor’s analysis of the impartiality and autonomy of independent economic authorities contributes to the Committee’s review of the “measures needed to strengthen the impartiality and independence of independent authorities and regulatory agencies”. He first reviews the arguments warranting the independence of economic authorities and supervisors. He then goes on to address the features that conform an institution’s formal independence, detailing their specific form in the case of the Banco de España. Next, he reflects on the status of independence as a necessary, but not sufficient, condition for the proper performance by independent agencies of their functions. He then highlights possible measures for strengthening the independence of the Banco de España, and identifies potential improvements to the financial supervision model in Spain. Lastly, he refers to the Bank’s control mechanisms and transparency standards, and certain aspects of its governance.
    Keywords: independent economic authorities, independent agencies, economic supervisors, independence, accountability, transparency, governance, central bank, governor, financial supervision model, code of conduct, collegiate decisions
    JEL: E58 G28 E61 F55 K1 Y80
    Date: 2021–02

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