Concept Identification And Definition
June 6, 2021
Queuing Analysis Systems
June 6, 2021

Article review

In the following article, Christopher Nobes
suggests that there are several reasons for the differences in accounting
systems throughout the world.

Read the article and write a two page report on the following: (1)
Identify two reasons for differences in accounting systems around the world,
according to Nobes. (2) State your own opinion about what the author is saying.
(3) Write a prediction of the future: Think ahead ten years from now. Prepare a
classification of accounting systems that you think will exist then. What
factors motivate your particular classification?

The article first examines the existing
modelling literature, which contains a large number of suggested reasons for
international differences in accounting. After examining terminological
problems, a preliminary parsimonious model is developed to explain the initial
split of accounting systems into two classes. The term ‘accounting system’ is
used here to mean the financial reporting practices used by an enterprise. A
country might exhibit the use of several such systems in any one year or over
time. Consequently, it should be systems and not countries that are classified.
The model proposes a two-way classification using two variables: the strengths
of equity markets and the degree of cultural dominance. Implications for
classifiers and rule-makers are suggested.

Key words: Classification; International


Many reasons have been suggested in the
literature for international differences in financial reporting. Some authors
state that they are merely listing plausible reasons; few provide precise
hypotheses or tests of them, as noted by Meek and Saudagaran (1990). Wallace
and Gernon (1991) complain about the lack of theory in international
comparative accounting. This article seeks to address this.

The literature (e.g., Choi and Mueller, 1992,
ch. 2; Radebaugh and Gray, 1993, ch. 3; Belkaoui, 1995, ch. 2; Nobes and
Parker, 1995, ch. 1) offers a large number of possible reasons for
international differences (see Table 1) but no general theory linking the
factors. Schweikart (1985) and Harrison and McKinnon (1986) provide some
elements of a general theory, without specifying which factors are major
explanatory variables for accounting practices. Two somewhat similar
theoretical models of the reasons for accounting differences are those of Gray
(1988) and of Doupnik and Salter (1995; hereafter DS). Gray suggests a model
based on cultural factors, as examined later. DS provide a synthesis of
previous discussions, leading to a framework, which is simplified here as in
Figure 1 so that an alternative can be proposed later. One difficulty emerging
from Figure 1 is that four of DS’s ten variables (see Table 2) are cultural
(based on Gray) and six are institutional, but culture is seen as giving rise
to the institutions. This suggests the possibility of double counting. A
related difficulty with DS is that there is no attempt to connect their six
institutional factors to see whether they might cause each other. In
particular, it is suggested later that four of the six (taxation, inflation,
level of education and stage of economic development) are not necessary. DS
thus have provided a mix of theories, not a general theory.

A number of terminological issues are raised
by studying this literature. These need to be addressed before attempting to
develop a general model.


One of the problems of identifying reasons for
differences, and perhaps then classifying accounting systems, is a lack of
clarity about what is being examined or classified. This article discusses
accounting practices, using ‘accounting’ to mean published financial reporting.
In some jurisdictions, the rules of financial reporting may be identical, or
very similar, to the practices, but sometimes a company may depart from rules
or may have to make choices in the absence of rules. The Price Waterhouse data,
used by many researchers,[1] seem to contain a mix of de facto and de jure
aspects ‘in a perplexing way’ (Rahman et al., 1996).

Another difficulty concerns the word ‘system’
(Roberts, 1995). DS use it to cover such things as regulatory agencies. Others
(e.g., Nair and Frank, 1980) have concentrated on a corpus of accounting rules
or practices. This article follows the latter route, that is, an ‘accounting
system’ is a set of practices used in a published annual report. Although this
is a narrow definition, these practices will reflect the wider context in which
they operate.

Another issue is whether to separate
disclosure from measurement practices. Nair and Frank (1980) show that this can
be important. Nobes (1983) looks at measurement practices only. DS acknowledge
the distinction but add the categories together. It seems appropriate to
include the presence or absence of certain key disclosures (e.g., earnings per
share, cash flow statements) as elements of a system, and this is discussed

A further issue is to determine whose accounting
practices are being examined. The Price Waterhouse data seem, in practice, to
have reported on companies audited by Price Waterhouse (see Nobes, 1981). DS
(p. 198) specify the measurement and disclosure practices of ‘companies’, which
is vague, particularly for disclosure practices. Nobes (1983, p. 5) chose the
measurement practices of ‘public companies’, which the context suggests meant
those with securities which are traded publicly.

A related point is that all the researchers
look at classifications of countries by their accounting environments or
systems. Roberts (1995) highlighted this problem, noting that a country could
have more than one system, for example, one system for companies with publicly
traded securities, and another for small private companies.[2] Similarly, some
large public companies may adopt very different practices from what is ‘normal’
for most large companies in the country. This is becoming especially obvious in
continental Europe, with the use of U.S. rules or International Accounting
Standards (IAS) by some very large companies. Therefore, it may be useful to
refer to a country’s ‘dominant accounting system’, which might be defined as
that used by enterprises encompassing the majority[3] of the country’s economic
activity. Hereafter, references to a country’s ‘system’ should be taken to mean
its dominant system.

In some countries, the law requires or
commercial pressures dictate that a large number of companies use the same
system. For example, in the U.K., most provisions of the Companies Act 1985 and
of accounting standards apply to all companies. In other countries, a
particular accounting system might be legally or commercially imposed on a
small minority of companies, as in the U.S. where ‘generally accepted accounting
principles’ are legally imposed on only that small proportion of companies
registered with the Securities and Exchange Commission. In both these rather
different cases, there is still dearly a dominant system as defined above.

Nevertheless, as there can be more than one
system in a country it would be more useful to specify accounting systems, and
then to note that particular companies in particular countries at particular
dates are using them. Of course, for labelling purposes, it might be useful to
refer, for example, to the system used in 1998 by U.S. public companies. With
labels, it will then be possible to identify separate influences on, and to
show separate places in the classification for, for example, ‘normal’ German
public companies in 1998, compared to the group accounts of such companies as
Daimler-Benz, Deutsche Bank and Bayer in 1998.

Also, a country’s accounting system may change
dramatically over time, for example, as a result of economic or political
revolutions (c.f. China, Russia, Poland, etc.). Less dramatically, accounting
in a country can change quite significantly as a result of new laws (e.g.,
Spain from the late 1980s as a consequence of EC Directives).[4]

Lastly, companies in two countries (e.g., the
U.K. and Ireland) can use extremely similar accounting practices (i.e., perhaps
the same ‘system’). In a similar manner to the characteristics of human
individuals, the detailed elements of a company’s accounting practices can
differ so much that the number of different sets of practices is effectively
infinite. Nevertheless, it is useful for some purposes to recognize that humans
all belong to the same species. The individual members of the species are all
different but have certain features in common. By analogy, a certain degree of
variation among company practices may be allowed without having to abandon the
idea that the companies are all using the same system.


The proposal here, which will be explained
more fully later, is that the major reason for international differences in
financial reporting is different purposes for that reporting.

Financing Systems

In particular, at a country level, it is
suggested that the financing system is relevant in determining the purpose of
financial reporting. Zysman (1983) distinguishes between three types of
financing system: (a) capital market based, in which prices are established in
competitive markets; (b) credit-based system: governmental, in which resources
are administered by the government; and (c) credit-based system: financial
institutions, in which banks and other financial institutions are dominant.

Zysman suggested that the U.K. and the U.S.A.
have a type (a) system; France and Japan a type (b) system; and Germany a type
(c) system. According to Zysman, in all systems companies rely considerably on
their own profits for capital but their external sources of funds differ. Where
external long-term finance is important, securities are the main source in the
capital market system. In such countries, there is a wide range of capital
instruments and of financial institutions, and the latter have an arm’s-length
relationship with companies. Investors change their holdings through the
secondary securities markets, which are large. In credit-based systems, the
capital market is smaller, so companies are more reliant on whoever grants
credit. This usually means banks, whether under the influence of governments or
not. Cable (1985) examined the importance of banks in the German economic
system. In this system, investors will find it more difficult to adjust their
holdings, so they may be more interested in long-run control of the management.

For the purposes of this article, a
development of the Zysman classification is proposed, as in Table 3. For this,
the concept of ‘insider’ and ‘outsider’ financiers needs to be developed. This
idea of insiders and outsiders, which has its roots in the finance literature,
has been used before for accounting purposes (e.g., see Nobes, 1988, p. 31),
and to discuss contrasting corporate governance systems (e.g., Franks and
Mayer, 1992; Kenway, 1994). ‘Outsiders’ are not members of the board of
directors and do not have a privileged relationship with the company (e.g.,
such as that enjoyed by a company’s banker who is also a major shareholder).
They include both private individual shareholders and some institutions. For
example, insurance companies and unit trusts normally have widely diversified
portfolios, so that any particular holding does not constitute a large
proportion of a company’s capital. Therefore, such institutions should perhaps
be counted as outsiders. By contrast, ‘insiders’ such as governments, banks,
families and other companies are all likely to have close, long-term
relationships with their investees. This will involve the private provision of
timely and frequent accounting information.

Both of Zysman’s credit-based systems fall
into category I of Table 3. Category II (a credit-based system with a large
amount of listed debt with outsider owners) is plausible but uncommon. A
possible example is discussed near the end of this subsection. Category III is
an equity-based system where most shares are owned by insiders. In Japan, for
example, there are large numbers of listed companies and a large equity market
capitalisation, but the shares are extensively owned by banks and other
companies (Nobes and Parker, 1995, p. 9 and ch. 13).

Category IV systems involve important equity
markets with large numbers of outsider shareholders. In these systems there
will be a demand for public disclosure and for external audit because most
providers of finance have no involvement in management and no private access to
financial information. This is the classic setting of most of the finance
literature (e.g., Jensen and Meckling, 1976; Beaver, 1989). More recently, a
connection between more disclosure and lower cost of equity capital has been
examined in such a context (Botosan, 1997). Pursuing this line, this article
suggests that the key issue for financial reporting is the existence or
otherwise of such Category IV financing. Ways of measuring this are proposed

In a particular country, there may be elements
of several of these four systems. For example, small companies are unlikely to
be financed by a Category IV system in any country. However, for the moment,
let us assume that the economic activity in any country is dominated by one
particular financing system. The hypothesis predicting a correlation between
the style of corporate financing and the type of accounting system is that the
rule-makers for, and the preparers of, financial reports in equity-outsider
(Category IV) countries are largely concerned with the outside users. The
conceptual frameworks used by the rule-makers of the U.S., the U.K., Australia
and the IASC[5] make it clear that this is so. In particular, they state that
they are concerned with reporting financial performance and enabling the
prediction of future cash flows for relatively sophisticated outside users of
financial statements of large companies. By contrast, credit-based countries
(mostly Category I) will be more concerned with the protection of creditors and
therefore with the prudent calculation of distributable profit. Their
financiers (insiders) will not need externally audited, published reports. This
difference of purpose will lead to differences in accounting practices. The
less common categories (II and III) will be discussed later.

Empirical researchers would need to establish
relevant measures to distinguish the categories (as done, for example, by La
Porta et al., 1997). These might include the number of domestic listed
companies in a country (or this deflated by size of population), the equity
market capitalization (or this deflated by GDP), and the proportion of shares
held by ‘outsiders’. Although the boundary between the types of financing
system may sometimes be unclear (as in many of the classifications in social
science, languages, law or, even, biology), the contrast between a strong
equity-outsider system and other systems should be clear enough, as the
Appendix demonstrates for some countries.

Financial Reporting

It is proposed that financial reporting
systems should be divided initially into two classes, for the moment labelled
as A and B. Class A corresponds to what some have called Anglo-Saxon accounting
and Class B to continental European. To assist researchers in measuring a
system, some core features of the two systems are suggested in Table 4. For
example, systems of Class A will share all, or a large proportion of, the practices
shown for that class. Clear examples of actual systems exhibiting all of the
features exist.[6]

It is proposed that, for developed
countries,[7] the extent that a particular country is associated with Class A
or Class B accounting is predictable on the basis of its position with respect
to financing systems. If the present accounting system was developed in the
past, then reference to the past importance of financing systems will be
relevant. Strong equity-outsider markets (Category IV) lead to Class A systems;
otherwise Class B systems prevail.

Even if a particular country is traditionally
associated with weak equity markets and therefore Class B accounting, the
country might change. For example, China has been changing in the direction of
a strong equity-outsider market and Class A accounting (Chow et al., 1995).
However, the accounting might remain stuck in the past for legal or other
reasons of inertia. Nevertheless, in some countries, certain companies might be
especially commercially affected. They might adopt Class A accounting by using
flexibility in the national rules, by breaking national rules, or by producing
two sets of financial statements. Some German examples of these routes can be
given. Bayer’s consolidated financial statements (for 1994 onwards) have used
non-typical German rules, that are different from those used in its parent’s
statements, in order to comply with International Accounting Standards (IAS).
Further, officials of the Ministry of Finance have announced that departure from
German rules would be ‘tolerated’ for such group accounts.[8] In the case of
Deutsche Bank (e.g., for 1995), two full sets of financial statements were
produced, under German rules and IAS, respectively.

A related issue is that, as noted earlier,
there are two aspects of financial reporting which can be separated:
measurement and disclosure (e.g., Nair and Frank, 1980). Table 4 contains
examples of both aspects. As explained below, the measurement issues seem to be
driven by the equity/creditor split, and the disclosure issues by the
outsider/insider split. The equity/creditor split leads to different kinds of
objectives for financial reporting. As suggested earlier, systems serving
equity markets are required to provide relevant information on performance and
the assessment of future cash flows in order to help with the making of
financial decisions. Systems in a creditor environment are required to
calculate prudent and reliable distributable (and taxable) profit. By contrast,
the outsider/insider split leads to different amounts of information: where
outsiders are important, there is a demand for more published financial

It has been assumed here that equity financing
systems are normally those which are associated with large numbers of outsiders,
so that Class A systems are an amalgam of equity and outsider features.
However, if there were countries (Category II of Table 3) with large markets
for listed debt but not for listed equities, then one might expect a financial
reporting system with the high disclosures of Class A but the measurement rules
of Class B. Perhaps the closest example of a system with Class B measurement
rules but high disclosures is the German system for listed companies.[9]
Germany does indeed have an unusually large market in listed debt.[10]

This way of distinguishing between the forces
acting on measurement and those acting on disclosure may help to resolve the
difficulties of a cultural explanation as discussed by Baydoun and Willett
(1995, pp. 82-8).

Category III (equity-insider) financing would
not produce Class A accounting because published financial reporting is
unimportant. The main financiers may be interested in performance and cash
flows but they have access to private ‘management’ information.

Colonial Inheritance

Some countries are affected by very strong
external cultural influences, perhaps due to their small size or underdeveloped
state or former colonial status. Such culturally dominated countries are likely
to be using an accounting system based on that of the influential country even
if this seems inappropriate to their current commercial needs (Hove, 1986).

Colonial inheritance (Factor 2 in Table 1) is
probably the major explanatory factor for the general system of financial
reporting in many countries outside Europe (Briston, 1978). It is easy to
predict how accounting will work in Gambia (British) compared to neighbouring
Senegal (French).[11] The same general point applies to Singapore (Briston and
Foo, 1990) or Australia (Miller, 1994). Colonial inheritance extends of course
to legal systems and to other background and cultural factors, not just to
direct imports of accounting (Parker, 1989). Allied to this are the effects of
substantial investment from another country, which may lead to accountants and
accounting migrating together with the capital.

Another influence is invasions (Factor 3)
which may lead to major influence on accounting, as is the case with
Japanese,[12] French,[13] and German[14] accounting. However, when the invader
retires, any foreign accounting can be gradually removed if it does not suit
the country: Japan closed down its Securities and Exchange Commission when the
Americans left, whereas France retained its accounting plan in order to aid
reconstruction after World War II (Standish, 1990).


If the above conclusions are accepted (i.e.,
that a general two-class model of financial reporting systems can be built
which rests on only the importance of financing systems and colonial
inheritance), then most of the seventeen factors listed in Table 1 seem
unnecessary as explanatory independent variables, at least for the initial
two-class classification. This section explains why, starting with DS’s


Previous writers (e.g., Nobes, 1983) have not
been helpful by listing tax as one of the major causes of accounting
differences. These writers have, in effect, suggested that Class A accounting
systems are not dominated by tax rules whereas Class B systems are; and
therefore, that the tax difference is one of the reasons for the difference in
accounting systems. However, the disconnection of tax from accounting in Class
A systems may be seen as a result of the existence of a competing purpose for
accounting rather than the major cause of international accounting differences.
Lamb et al. (1995) look at this in detail, concluding that:

  1. Rules for the determination of the taxable
    profit of businesses will be important in all countries (assuming that taxation
    of profit is significant).
  2. Without some major competing purpose for
    accounting for which tax rules are unsuitable, tax rules made by governments
    will therefore tend to dominate accounting, so that tax practices and
    accounting practices are the same (as in Class B).
  3. In some countries (or for some companies),
    there is the major competing purpose of supplying financial reports to
    equity-outsider markets (for which tax rules are unsuitable). In this case, for
    many accounting topics, there will be two sets of accounting rules (and
    practices): tax rules and financial reporting rules (as in Class A).

Consequently, the tax variable is not needed
to explain the difference between Class A and Class B systems. Nevertheless,
for those systems where tax and accounting are closely linked (Class B),
international differences in tax rules do create international accounting
differences. However, these are detailed differences within a class of
accounting systems which all share the major feature of being dominated by tax
rules, which is one of the distinguishing marks of the class.

There is a further important connection here.
The equity/credit split in financing, as discussed earlier, coincides with the
proposed equity-user/tax-user split: accounting systems designed to serve
creditors are systems dominated by tax rules. This is because the calculation
of the legally distributable profit (to protect creditors) and the calculation
of taxable profit are both issues in which governments are interested. The
calculation of legally distributable profit is a different purpose from the
calculation of taxable profit but it is not ‘competing’ in the sense of
requiring a different set of rules because both calculations benefit from
precision in the rules[15] and from the minimization of the use of
judgment,[16] which is not the case for the estimation of cash flows.

Incidentally, DS follow previous writers and
suggest that, ‘In many countries, tax laws effectively determine accounting
practice’ (p. 196). However, they then find that tax is not a useful
independent variable in explaining accounting differences. It is argued above
that tax is not an independent variable for the main classificatory split. DS
failed to find even a correlation, probably because they mis-specified the tax
variable by using the marginal rate of corporate income taxes. This measure
seems inappropriate for several reasons. First, tax rates change dramatically
over time, without any obvious effect on accounting (e.g., the top U.S. rate
fell from 46 per cent to 34 per cent in 1987; the main rate in the U.K. rose in
1973 from 40 per cent to 52 per cent, and then fell to 33 per cent in 1991).
Second, many systems have more than one marginal rate (e.g., in Germany in
1995, 45 per cent for retained profit but 30 per cent for distributed profit;
and, in the U.K., 33 per cent for large companies but 25 per cent for small).
Third, the tax burden depends greatly on the definition of taxable income not
just on the tax rate. More importantly, in countries with a small connection
between tax and accounting (typical of Class A), the tax rate will have little
effect on accounting; and in countries with a close connection (typical of
Class B), the effect of tax on accounting will be in the same direction and
probably almost as strong whether the rate is 30 per cent or 50 per cent. For
all these reasons, the level of the marginal rate of tax will not help to
predict the financial reporting system.

Level of Education

DS’s variable here is the percentage of
population with tertiary education. It is hard to see how one could explain the
major accounting differences on this basis. Can one explain the large
accounting differences between, on the one hand, the U.K., the U.S. and the
Netherlands (where Class A dominates) and, on the other hand, France, Germany
and Italy (where Class B dominates) on the basis of the rather similar levels
of tertiary education? Again, can one explain the remarkable similarities
between accounting in Malawi, Nigeria and Zimbabwe (Class A countries) and the
U.K. (also Class A) on the basis of the rather different levels of tertiary
education? Instead there seems to be a connection with the ‘colonial
inheritance’ point, as discussed earlier and as taken up again in the ‘level of
economic development’ point below. Thus it is not surprising that the education
variable did not help DS. Previous suggestions related to this factor (e.g.,
Radebaugh, 1975) seem, more plausibly, to involve the comparison of developed
with less developed countries.

Different levels of professional accounting
education might be relevant (Shoenthal, 1989), perhaps especially in developing
countries (e.g., Parry and Grove, 1990). However, Nobes (1992) casts doubt upon
the relevance of this type of factor for classification. To the extent that
this is not another issue related to developed versus developing countries,
differences in professional education might be covered by Factor 8 in Table 1
(age and size of accountancy profession) and may be a result of accounting
differences rather than their cause.

Level of Economic

It is suggested that the key issue here is not
the influence of the stage of economic development on financial reporting (as
chosen by DS). Gernon and Wallace (1995, p. 64) agree that there is ‘no
conclusive evidence’ about the relationship. The problem is that, while many
African countries with a low level of development have accounting systems
rather like the U.K.’s, some have completely different accounting systems
rather like that in France. By contrast, the U.K. or the Netherlands have a
rather similar level of economic development to that of Germany or Italy but
completely different accounting systems.

It would seem plausible to argue that, if
accounting systems were indigenously created in all countries, then they would
develop differently in developed and undeveloped economies. However, it is
suggested that this point is largely overridden by the proposition that
developing countries are likely to be using an accounting system invented
elsewhere. Perhaps the system has been forced on them, or they have borrowed
it. Either way, it is usually possible to predict accounting in such countries
by looking at the source of the external influences. Therefore, the level of
development is not the key predictor for the split between Class A and Class B.
Cooke and Wallace (1990) seem to support the distinction between developed and
developing countries when it comes to the influence of various environmental
factors on accounting.

Legal Systems

For developed Western countries and for many
others (e.g., Japan, South America and most of Africa), it is possible to split
countries neatly into codified legal systems and common law systems (David and
Brierley, 1985). As DS note, this is of great relevance to the regulatory
system for accounting. However, there is a high degree of correlation between
equity-outsider financing systems and common law countries, and between
credit-insider systems and codified law.[17] On the whole, therefore, the same
groupings would result from using a legal system variable rather than from using
a financing system variable, as DS find. This again suggests the possibility of
double counting. The exception of the Netherlands, which raises further doubts
about using the legal variable for accounting classification, is explained

For culturally dominated countries, both the
legal and accounting systems are likely to have been imported from the same
place, so the correlation between these two variables is unsurprising. Both
factors can be explained by the colonial influence factor, so the legal factor
is not needed. For other countries, there may be aspects of the common law
system which predispose a country towards the creation of strong
equity-outsider systems (La Porta et al., 1997), but going that far back in the
causal chain is not necessary for the present model. For present purposes, it
may be more useful to specify the legal variable as the regulatory system for
accounting rather than the more general legal system. The variable would be
measured by locating the source of the most detailed accounting regulations. A
0/1 variable would contrast (i) rules made by professional accountants, company
directors, independent bodies, stock exchanges and equity market regulators,
and (ii) rules made by tax authorities, government ministries (other than those
concerned primarily with listed companies) and legal bureaucrats.

Once more, it could be argued that this
version of the legal variable is not independent but is dependent on the
financing variable. In strong equity-outsider systems, commercial pressure
gives the strongest power over financial reporting to group (i) because, since
the financial reporting for the equity/outsiders uses separate rules from tax
rules, there is no need for group (ii) to control them. In particular, many of
the disclosures (e.g., consolidated financial reports, cash flow statements,
segmental reporting, interim reporting) are not relevant for tax or
distribution purposes in most jurisdictions. Financial institutions and large
companies are sufficiently powerful to persuade group (ii) to allow financial
reporting to respond to commercial needs. In common law countries, the
importance of group (i) creates no problems of jurisprudence because
non-governmental regulation is commonplace. In the rare case of a codified law
country with a strong equity market (e.g., the Netherlands), the regulatory
system for financial reporting can still give prominence to group (i) although
this creates tensions (Zeff et al., 1992). In all systems, group (ii) retains
full control over tax rules.

Inflation Levels

Another factor included by DS is the rate of
inflation and, once more, previous writers have not been helpful here. For
example, although Nobes (1983) did not include inflation as a key variable,
Nobes and Parker (1995, p. 19) suggested that ‘Without reference to this
factor, it would not be possible to explain accounting differences in countries
severely affected by it’. However, on reflection, the more important issue is
illustrated by other points that they make in the same section:

  1. ‘accountants in the English-speaking world
    have proved remarkably immune to inflation when it comes to taking decisive
  2. ‘in several South American countries, the most
    obvious feature … is the use of methods of general price-level adjustment’;
  3. ‘the fact that it was governments which
    responded to inflation in France, Spain, Italy and Greece … is symptomatic of
    the regulation of accounting in these countries’.

In other words, any accounting system would
have to respond at some level of inflation sustained for a certain length of
time.[18] The key points are who responds and how they respond. The nature of
these responses to inflation is a good indicator of the regulatory system for
accounting. In countries where Class A accounting is dominant, professional
accountants respond; in countries where Class B accounting is dominant,
governments respond within the framework of the tax system.[19] Differential
inflation does not cause the difference between Class A and Class B accounting,
the regulators typical to the two classes respond differently to it. However,
as with some other factors, differential inflation response may lead to
differences between the systems within Class A or within Class B.


Culture (defined by Hofstede as ‘the
collective programming of the mind’) is clearly a plausible cause of accounting
differences as proposed by Gray’s (1988) application of Hofstede’s (1980)
theory. DS’s four culture variables (see Table 2) were drawn from Hofstede.
However, the attempt to use cultural variables entails large problems (Gemon
and Wallace, 1995, pp. 85, 90, 91). Baydoun and Willett (1995, p. 69) also
suggest that the mechanisms of the effects are not obvious, and: ‘such is the
nature of the concepts involved and the state of the available evidence that it
is questionable whether Gray’s adaptation of Hofstede’s theory can in fact be
empirically validated in the usual scientific sense’ (p. 72).

For the purposes of this article, one can
agree with Gray that culture can at least be seen as one of the background
factors leading to more direct causes of accounting differences (such as the
financing system). Culture may be of more direct help when examining other
issues, for example, differences in the behaviour of auditors (Soeters and
Schreuder, 1988). It will also be useful later to divide countries into
culturally self-sufficient and culturally dominated. As noted in the previous
section, the latter countries (e.g., colonies or former colonies) might be
expected to adopt practices from other countries. In this sense, culture might
indeed overwhelm other factors for certain countries.

Broad Factors

Others of the seventeen factors of Table 1,
not proposed by DS but elsewhere in the literature, are too wide to be useful
and can be accommodated within more specific factors. On these grounds, history
and geography (Factors 11 and 12) can be removed. In a sense, ‘history’
explains everything, but this is not helpful unless it is known which part of
history. For example, colonial history and the history of the corporate
financing system are likely to be particularly relevant, so other factors can
cover this.

‘Geography’ is also too broad a factor to be
useful. It seems unlikely that the physical nature of a country has a major
effect on its dominant class of accounting. For example, the Netherlands and
Belgium have very different accounting, although they are similar in physical
environment. By contrast, the U.K. and Australia have similar accounting
although they are dramatically different in climate, terrain and type of
agriculture. A country’s location may be relevant for other factors (such as
colonial inheritance and invasions) or for certain aspects of its financial
history (such as the fact that maritime countries may tend to develop certain
types of trading or markets). However, the relevant aspects of geography should
be picked up by other factors. In the meantime, one merely notes that location
seems to be overwhelmed by other factors in the sense that New Zealand has
rather similar accounting to the distant U.K.; and the Netherlands has very
different accounting from its neighbours, Germany and Belgium.


Other factors may involve covariation rather
than causation. For example, the fact that many English-speaking countries have
similar accounting practices is probably not caused by their shared language
(Factor 13): the language was inherited with the accounting or with other
factors which affect accounting. Language similarities may contribute to the
strength of cultural dominance, and language differences may slow down the
transfer of accounting technology. However, these points do not make language a
key independent variable.


Theory (Factor 14), in the form of an explicit
or implicit underlying framework, is certainly of relevance in some
countries.[20] However, there are always competing theories (as examined for
accounting by Watts and Zimmerman, 1979). It is suggested here that the degree
of acceptance of particular accounting theories within a country depends upon
other factors, such as the strength of equity markets and the regulatory

Results Rather Than

Some factors above have been seen as more
results than causes of the major accounting differences. Similarly, the age and
size of the accountancy professions (Factor 7) differ substantially around the
world,[21] but this is likely to be the result of different accounting systems.
For example, the comparatively small size of the German auditing profession
seems to result from the comparatively small number of audited companies, which
in turn results from comparative weakness of equity markets.

Factors More Relevant
Outside the Developed World

Certain other factors might not discriminate
between developed Western countries, on which most classifications have
concentrated. For example, political systems (Factor 15), religion (Factor 16)
and stage of economic development (Factor 8) are probably sufficiently
homogeneous in these countries that they do not have major explanatory power.
They might well be relevant for a broader study, and at levels of
classification below the two major classes. For example, religion may have an
effect on accounting in some countries (Gambling and Abdel-Karim, 1991; Hamid
et al., 1993). Of course, religion and culture may be closely related.


Close examination of accidents (Factor 17)
will generally reveal their causes. However, certainly at the level of detailed
accounting practices within a class, ‘accident’ may be a useful summary
explanation. For example, some of the largest differences between U.S. and U.K.
accounting (LIFO, deferred tax and goodwill) could be said to have accidental
causes.[22] However, it is not necessary to resort to ‘accidents’ as an
explanation of the difference between Class A and Class B accounting. It is
suggested that the model which is restated in more detail below is powerful
enough without this feature. In the end the validity of this claim is an
empirical matter.

Summary on Excluded

Many of the factors which have been examined
in this section may be contributory causes to accounting differences or may be
associated with accounting differences. However, it has been suggested that
each can be eliminated as a major reason for the differences identified at the
first split of accounting systems into two classes. At lower levels in a
classification, many of these factors may be useful explanations of relatively
small differences between systems. Further, some of the factors, certainly
‘culture’, help to explain the different types of capital markets which,
according to proposals here, do explain the major groupings.


The proposed model consists of a number of
linked constructs which will be expressed as propositions. Part of the model
can be expressed in simplified form as in Figure 2, which amends DS’s proposal
(summarised in Figure 1). The variables needed have been introduced in the text
above, but now need to be marshalled.

The first variable is the type of country
culture and the second is the strength of the equity-outsider financing system.
This article assumes that some cultures lead to strong equity-outsider markets,
and others do not. However, this is an issue for economists and others and is
not examined in detail here. The point of departure for the constructs and
hypotheses explained below is the second variable: the nature of the equity
markets. Suggestions have been made here about how empirical researchers could
measure this variable, perhaps leading to a 0/1 (weak or strong equity-outsider
market) classification.

A further variable is the type of company. For
most companies (insider companies), a controlling stake is in the hands of a
small number of owners. For a comparatively few companies (outsider companies),
control is widely spread amongst a large number of ‘outsider’ equity-holders.
Countries with strong equity-outsider systems generally have a large number of
outsider companies which may comprise most of a country’s GNP, but other
countries may also have a few of these companies.

The fourth variable is the country’s degree of
cultural self-sufficiency. As discussed earlier, some countries have strong
indigenous cultures whereas others have imported cultures which are still
dominated or heavily influenced from outside. This dichotomy will be expressed
by using the labels CS (for culturally self-sufficient) and CD (for culturally
dominated). Researchers might wish to measure this in various ways, for example
by the number of decades since a country gained political independence from
another. Many developing countries are CD and many developed countries are CS,
but there are exceptions. Again, the boundaries between CS and CD are unclear,
but researchers should have little difficulty in classifying many countries.
Concentration should be placed on aspects of business culture in cases where
this may give a different answer from other aspects of culture.

The final variable is the type of financial
reporting system (or, in short, ‘accounting system’) introduced earlier as
Class A or Class B. Again, preliminary suggestions have been made about how
researchers might measure and classify systems in this way.

The theoretical constructs which link these
variables can now be brought together. It is relevant here to repeat the point
that more than one accounting system can be used in any particular country at
any one time or over time.

The model can be expressed in terms of
propositions, which are then explained and illustrated:

P1: The dominant accounting system in a CS
country with a strong equity-outsider system is Class A.

P2: The dominant accounting system in a CS
country with a weak (or no) equity-outsider system is Class B.

P3: A CD country has an accounting system
imported from its dominating country, irrespective of the strength of the CD
country’s equity-outsider system.

P4: As a country establishes a strong
equity-outsider market, its accounting system moves from Class B to Class A.

P5: Outsider companies in countries with weak
equity-outsider markets will move to Class A accounting.

The analysis can begin with culturally
self-sufficient (CS) countries (Propositions P1 and P2 above), as illustrated
in Figure 3. For these countries, it is suggested that the class of the
dominant accounting system will depend upon the strength of the equity-outsider
market (or on its strength in the past, if there is inertia). Strong
equity-outsider systems will lead to Class A accounting (see Table 4), whereas
others will lead to Class B accounting. As explained earlier, the term
‘dominant accounting system’ is used to refer to the type used by enterprises
representing the majority of a country’s economic activity. For example, small
unlisted enterprises in strong equity market countries might not practise Class
A accounting or indeed any financial reporting at all.

Propositions P3 to P5 are now examined.
Proposition P3 is that, in culturally dominated (CD) countries, accounting systems
are imported. Sometimes a CD country will also have had time to develop the
style of equity market associated with the culture. Therein, Propositions P1 or
P2 will hold as in CS countries. However, sometimes a CD country may have
imported its culture and its accounting system without establishing the related
equity market. In this case the accounting system will seem inappropriate for
the strength of the equity-outsider financing system. Proposition P4 is that,
if either a CS or a CD country with a traditionally weak equity market
gradually develops a strong equity-outsider system, a change of accounting
towards Class A will follow. Also (P5), in a country with weak equity-outsider
markets, there may be some ‘outsider companies’ (as defined earlier). Commercial
pressure will lead these companies towards Class A accounting, even if the
dominant system in the country is Class B. For such a company, there will be
rewards in terms of lower cost of capital[23] from the production of Class A
statements, particularly if there is an international market in the company’s
shares. If legal constraints hinder movement towards Class A accounting, then
the company can use extra disclosures or supplementary statements.

Figure 4 shows some aspects of these
constructs. The continuous arrows are those from Figure 3. Dotted arrows (a)
and (c) concern aspects of Proposition P3.

Arrow (b) relates to Proposition P4, and Arrow
(d) Proposition P5. Some illustrations are:

  1. (Arrow a) New Zealand is a CD country with
    wholesale importation of British culture and institutions (Type 1), including a
    strong equity-outsider system and Class A accounting. Whether the Class A
    accounting results from the equity market or from direct cultural pressure is
    not important to the model; it probably arises from both.
  2. (Arrow b) China is a country without a strong
    equity-outsider tradition but which seems to be moving towards such a system.
    Class A accounting is following (Davidson et al., 1995).
  3. (Arrow c) Malawi is a CD country with very
    weak equity markets[24] but where the accountancy profession has adopted Class A
    accounting, consistent with its colonial inheritance from the U.K.
  4. (Arrow d) The Deutsche Bank, Bayer and Nestle
    are companies from countries with traditionally weak equity markets. These
    companies are now interested in world equity-outsider markets, so they are
    adopting[25] Class A accounting for their group accounts.


Discussions about the reasons for
international differences in financial reporting are clearly related to the
topic of classification of financial reporting ‘systems’. Some implications of
the above suggestions for classification researchers are examined here.

Before Darwin, the Linnaean classification was
drawn up on the ‘intrinsic’ basis of observations about the ‘essential’
differences in the characteristics of species. Later, genetic and inheritance
(‘extrinsic’) issues became the normal basis for classification, but largely
came to the same conclusions. In accounting, one may also see both intrinsic
and extrinsic classifications (Roberts, 1995), which may lead to similar
conclusions. For example, one can extrinsically trace modern U.K. and modern
New Zealand accounting back to a common ancestor; and one can intrinsically
note many similarities in the accounting systems currently used. However, it is
proposed here to discuss the classifications based on intrinsic factors. For this
reason, the term ‘species’, to which Roberts (1995) objected, will be omitted.

It is not proposed here to re-work previous
classifications but to suggest implications of the above conclusions for future
classification work. Taking the classification by Nobes (1983), some
improvements can be suggested, as shown in Figure 5. The two classes are shown,
much as in the earlier classification, but the labels are sharper, following
Propositions P1 and P2 above. The bottom level of classification is now a ‘system’
not a country. This accommodates P5 above. In order to make the classification
easier to use, the systems could be labelled (e.g., U.S. GAAP). The
classification in Figure 5 is by no means complete, for it merely seeks to
illustrate the type of amendments proposed for future classifiers.

Below each system, there are examples of users
of the system. This accommodates the points made earlier about the meaning of
the term ‘dominant accounting system’. For instance, U.S. GAAP is used by
SEC-registered companies but not by all U.S. companies. Similarly, some
Japanese companies are allowed to follow U.S. GAAP for their group accounts for
both U.S. and Japanese purposes. As another instance, the ‘standard German’
system is that used by German companies for individual company accounts and, by
most of them, for group accounts. However, several German listed companies are
now publishing group accounts in accordance with International Accounting
Standards, either by carefully choosing unusual German options (e.g., Bayer for
1994) or by producing two sets of group accounts (e.g., Deutsche Bank for

Proposition P3 would be relevant for the
inclusion of developing countries in a classification. The fourth proposition
could be used to predict which countries would move their dominant systems
towards Class A in the classification.


The import and export of accounting technology
(Parker, 1989) seems to be accelerating as a result of globalization and the
formation of economic blocs such as the European Economic Area and the North
American Free Trade Area. Also, the World Bank has funded advice for China on
reforming its accounting; the British Foreign Office for Romania; the European
Union for Russia; and so on. This section examines some implications of the
article’s earlier sections for standard-setters and other rule-makers.

In a CD country, the rule-makers should note
that the country’s accounting system is likely to have been imported and may
not be appropriate for the main purpose of accounting. For example, in a
developing country with imported Class A accounting but with few or no listed
companies, the paraphernalia of Class A (e.g., extensive disclosure,
consolidation, external audit) may be an expensive luxury. Resources might be
better spent on establishing a reliable and uniform bookkeeping system, partly
for the purpose of improving the collection of tax.

A similar point applies to many former
communist countries, where the introduction of Class A accounting for a large
proportion of enterprises might be inappropriate. However, for some such
countries (perhaps China) where an impression has been created that the
population and the government seem keen on moving to an equity-outsider system,
the introduction of Class A might be appropriate, at least for large or listed

In CS countries with a credit-insider system,
again the rule-makers should think carefully before a generalized introduction
of Class A. For example, it is not at all clear that the benefits of Class A would
exceed its cost for the bulk of German companies. It is also not clear that
there would be much benefit in any improved ability to compare corner grocery
shops in Stuttgart with those in Sydney. However, German rule-makers should ask
themselves (and are doing so) whether they should assist the large German
companies who are being forced by commercial pressures towards Class A. One
approach would be exemption from normal German rules for the preparation of
consolidated financial statements by such companies.

There is another policy question for
governments whose countries do not have equity-outsider financing systems but
who wish to encourage them. Would the imposition of a Class A financial
reporting system encourage a change in financing system? The thrust of this
article is that the financial reporting follows from the financing system. This
is reminiscent of the debate in the literature about the relationship between
double-entry bookkeeping and the rise of capitalism (e.g., Sombart, 1924;
Yamey, 1949; Yamey, 1964; Winjum, 1971). The weight of argument seems to rest
with those who believe that double entry follows business developments rather
than leading them. None of this proves that developments in accounting cannot
assist in economic development. However, the imposition of Class A might be
inappropriate, particularly if done for unlisted companies or within a detailed
and slow-moving legal system, given that an important feature of Class A
accounting is that it can adapt to commercial circumstances. It might be better
to concentrate on making Class A available by removing any legal or economic
barriers to its usage and by subsidizing education.

In CS countries with equity-outsider financing
systems and Class A accounting, the rule-makers should ask whether the full
panoply of Class A is necessary for smaller companies or whether a separate
financial reporting system should be allowed for them. This issue has largely
been resolved in the U.S.A., as discussed earlier, and recent moves in the U.K.
have exempted some smaller companies from audit and from the disclosure rules
of several standards.[26]

The International Accounting Standards
Committee (IASC) does not impose its rules on any enterprises; it merely makes
them available to companies or regulators. However, some regulators impose IASs
on some or most enterprises in their countries.[27] Also, the World Bank
requires its borrowers to use IASs. The IASC should consider whether it could
make available some additional ‘system’ which might be more suitable for
financial reporting by unlisted companies.


This article proposes a general model of the
reasons for international differences in accounting practices. Instead of
dozens of potential independent variables, it proposes two explanatory factors
for the first split of accounting systems into classes. For culturally
self-sufficient countries, it is suggested that the class of the predominant
accounting system depends on the strength of the equity-outsider market.

For culturally dominated countries, the class
of the accounting system is determined by the cultural influence. However,
sometimes an equity-outsider market may gradually develop, or certain companies
may be interested in foreign equity markets. This will lead to the development
of the appropriate accounting, and it is one of the reasons for the existence
of more than one class of accounting in one country.

Many other factors, which had been suggested
previously as reasons for accounting differences, result from or are linked to
the equity market. Some factors are perhaps reasons for the differences in
equity markets, but are too unclear to measure with any precision. A general
theory previously proposed by Doupnik and Salter (1995) mixed several of these
factors and mis-specified some of them.

Some improvements to the classification of
accounting systems have been suggested, incorporating the idea that it is
accounting practice systems, not countries, that should be classified. Some
implications for rule-makers are suggested, warning against inappropriate
transfers of technology.

1 For example, Da Costa et al. (1978); Frank
(1979); Nair and Frank (1980).

  • 2 I am grateful to my
    colleague, Autar Singh, for discussions that clarified my thoughts on this.
  • 3 Researchers would have to
    decide whether to start from the smallest enterprise or from the largest.
    Presumably, it would make sense to start from the largest, since this would
    involve far fewer enterprises, and since the small enterprises would not be
    publishing any financial reports in most countries.
  • 4 See, for example, Gonzalo and
    Gallizo (1992), ch. 3.
  • 5 Statements of Financial
    Accounting Concepts of the FASB, particularly SFAC 1, Objectives; the similar
    chapter 1 of the ASB’s draft Statement of Principles; Statements of Accounting
    Concepts of Australia; and the IASC’s Framework for the Preparation and
    Presentation of Financial Statements, para. 15.
  • 6 For example, Australia, the
    U.S. and the U.K. exhibit all the features of Class A, whereas the dominant
    systems in France, Germany and Italy exhibit all the features of Class B
    (although a few consolidated statements use a different system and depart from
    some aspects). Most items in Table 4 are covered by the relevant country
    chapters of Nobes and Parker (1995) or, for example, see Scheid and Walton
    (1992) for France, or Gordon and Gray (1994) for the UK.
  • 7 The idea of ‘developed’ or
    ‘culturally self-sufficient’ is examined further later.
  • 8 Herr Biener of the German
    Finance Ministry announced this at the board meeting of the International
    Accounting Standards Committee in Amsterdam in May 1996. In 1998, German law
    changed in order specifically to allow this.
  • 9 This feature of German
    accounting was highlighted by Nair and Frank (1980), who prepared separate
    classifications based on measurement and disclosure practices.
  • 10 For example, in 1993, the
    number of listed bonds in Germany was 13,309, whereas the number in France was
    2,516 and in the U.K. 2,725 (data from European Stock Exchange Statistics,
    Annual Report, 1993).
  • 11 An unpublished PhD thesis by
    Charles Elad (University of Glasgow, 1993) shows the colonial influences
  • 12 Japan’s SEC, its structure
    of Securities Laws and its stock market owe much to U.S. influence during the
    occupation following World War II.
  • 13 The distinguishing feature
    of French accounting, the plan computable, was first adopted in France while
    under German occupation (Standish, 1995).
  • 14 The German accounting plan,
    though copied in France, was abolished by the occupying Western powers after
    World War II. A version survived in the communist East Germany until
  • 15 For example, in both the
    U.K. and Germany (typical Class A and Class B countries, respectively), there
    are large numbers of legal cases on the determination of taxable income and
    some on the determination of distributable income, but there are few or none on
    the determination of consolidated accounting profit (i.e., cases where there is
    no tax motivation).
  • 16 In the U.K., and recently in
    the U.S. with SFAS 115, certain assets are revalued above historical cost; and
    unsettled profits are taken to income (e.g., on long-term contracts and on
    foreign currency monetary balances). None of this is possible under German law.
  • 17 This is examined in Nobes
    and Parker (1995, ch. 1).
  • 18 From observation of
    Anglo-Saxon countries, it seems that inflation of above 10 per cent for several
    years will cause a response (e.g., in the U.K. in the early 1950s or early
    1970s), and the same applies to some continental European countries in the
    1970s (Tweedie and Whittington, 1984).
  • 19 For example, many South
    American countries respond with compulsory government-controlled systems of
    general price level adjusted accounting, whereas English-speaking countries
    responded with rules written by the profession (although there was government
    involvement) which required some supplementary disclosures (Tweedie and
    Whittington, 1984).
  • 20 For example, the Netherlands
    is often said to have been influenced by the current value theories of Limperg
    and the German business economist Schmidt (Zeff et al., 1992; Clarke and Dean,
  • 21 For example, see Table 1.1
    in Nobes and Parker (1995).
  • 22 This is examined by Nobes
    (1996), where it is suggested that timing is a key factor. For example, the
    U.S. requirement to amortize goodwill was introduced earlier than U.K. standard
    setting on this issue, when goodwill was far less significant.
  • 23 It is argued that equity
    investors and lenders will be persuaded to provide funds at lower returns to
    companies using more accepted, familiar and transparent financial reporting
    (see Botosan, 1997).
  • 24 These issues are discussed
    by Nobes (1996).
  • 25 For example, Bayer adopted
    international accounting standards (IASs) for its group accounts for 1994, and
    Deutsche Bank produce supplementary IAS group accounts for 1995. Nestle
    published IAS group accounts.
  • 26 In 1994, the audit
    requirement was removed or reduced for private companies with turnover under
    350,000. The Accounting Standards Board published an exposure draft for a
    Financial Reporting Standard for Smaller Entities in 1996.
  • 27 This is approximately the
    position for Singapore, Hong Kong, and many other Commonwealth countries


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