Question

What are the arguments favoring regulation of financial reporting? What are the arguments against regulation of financial reporting? 3. Why is it difficult to evaluate the regulation question?

Answer 1

1. Arguments in favor of regulation of financial reporting

• Public companies in the US and EU have reporting requirements, as do some private companies in the EU. Regulators and others in favor of such reporting argue that capital providers, customers, and suppliers can use accurately reported financials to better evaluate disclosing and related companies, benefiting everyone. Prior research suggests that these stakeholders may indeed make use of companies’ mandatory disclosures.
• Making private companies report their full financial statements would create more competitive markets. It would drive more companies to open (although also to close), reduced market concentration, and lowered barriers to going public.
• There may be reasons for governments to impose reporting and auditing mandates, perhaps to improve tax collection or fight money laundering.

2. Arguments against regulation of financial reporting

• Regulation would not necessarily make the market more efficient in terms of resource allocation—rather than grow the economic pie, it would mostly the relative sizes of the pie’s slices.
• Customers, suppliers, and competitors would stand to benefit from what would otherwise have been a company’s proprietary information.
• While the dissipation of proprietary information might have meant lower prices for consumers, it would also appear to have discouraged companies from making productivity-enhancing investments.
• Greater competition as a result of mandatory reporting would lead to stifle rather than spur productivity growth, at least for the typical firm in an industry.

3. Difficulty in evaluating financial reporting regulation

• Regulations have become too complex
• Focus too little on macro prudential risks
• Be inadequate to deal with crises in global financial institutions, or
• Fail to cope with financial innovation.

While the regulatory reforms enacted so far are clearly addressing important problems, the recent years have provided new challenges for constructing an appropriate regulatory architecture.