An Historical Perspective of the Accounting Environment - a General Outline of a Western European and North American Linkage

AN HISTORICAL PERSPECTIVE OF THE ACCOUNTING ENVIRONMENT:

A GENERAL OUTLINE OF A WESTERN EUROPEAN AND NORTH AMERICAN LINKAGE

Berith Bronger Siemers

Dongbei University of Finance & Economics

Dalian, PR China

Working Paper 05-22-2006

ABSTRACT

It is recognized that the usefulness of accounting information is contingent upon its (1) neutrality, (2) relevancy, and (3) reliability. Given that all socio-economic systems are comprised of participants and institutions, it would seem that the attainment of those three qualities is conditioned by a proper determination of the institutional arrangement. The relationship of the members of society to existing institutions emerges as the pivotal consideration. Institutions are the creations of society, therefore, it seems fair to state that they reflect the evolutionary process. The institutional arrangement has evolved over time, and an understanding of the evolution is fundamental to achieving neutrality, relevancy, and reliability of accounting information. The roles of the many and varied institutions as intended upon their creation by society can provide the basis for establishing disclosure requirements. Such requirements entail a proper balancing of many factors as constrained by costs versus benefits in the information disseminating process. In this regard, historical research can provide a tremendous insight into institutions and institutional roles as they have evolved. Such insight can facilitate the complex balancing problem of financial reporting.

INSTITUTIONAL ARRANGEMENTS AND ACCOUNTING THEORY

"Acquaintance with reality's diversities is as important as understanding their connection [Guer1ac 1977,7]." In order to understand (construct) the foundations of accounting theory, it would appear that the development of the socio-economic system which accounting serves be understood. To look at an existing highly developed system and from that to attempt to construct the foundations of accounting theory may very well be folly and be fraught with disastrous consequences for further analysis and policy recommendations. A simple case in point follows. The Financial Accounting Standards Board (FASB), in Statement of Financial Accounting Concepts No.2, has espoused relevancy and reliability as primary qualities of accounting information; however, it considers neutrality as a secondary qua1ity [FASB 1980]. This treatment of neutrality may be due to the failure to give due cognizance to the evolution of internal and external financial reporting. Relevancy and reliability are of much older vintage than neutrality, but that should not diminish neutrality's rightful location in the hierarchy of accounting qualities. Relevancy and reliability were primary qualities in the area of internal financial reporting when the financier of the enterprise was also the manager of the enterprise. The emergence of new institutions (capital markets, corporations, etc.) and new participants (shareholders, professional managers, employee associations, etc),

characterizes the social evolutionary process which gave rise to external financial reporting.

In order to serve the many and varied new users, the abstraction of the entity had to be a true and fair representation of the facts consistent with monetary exchange. A complex

balancing among the interests of the many and varied users became paramount, and

neutrality emerged as the desired quality to achieve this complex balancing of interests.

The existing institutional arrangement evolved and did not exist in its present state,

however, the basic societal concern has not been altered by the variations emerging from the continual modification or amplification of the institutional arrangement. To simply abstract from rea1ity.without understanding the historical relevance of certain institutional developments may allow reality to escape the analysis. Accounting theorists must avoid falling victim to the same type of accusation launched against the classical economists:

The classical economists in their theoretical analysis did not do justice to the variety of institutions, they built theories which could not justly account for the full range of economic reality and its historical deve1opment [Eucken 1951,50].

The implications and consequences of the failure to understand institutional arrangements and their historical evolution are of great importance and cannot be over-emphasized [Finley 1973].

The requisite understanding of the accounting environment can be obtained from an analysis of observed and observable phenomena. Apparently, the findings of such an investigation should serve as the basis for the development of accounting theory.

With the foregoing in mind, this treatise shall: (1) focus on the socio-economic

system; (2) determine the participants; (3) examine their behavior; and (4) establish a basis for the formulation of accounting theory. It must be stressed that human behavior

at times is irrational due to certain stimuli. When such irrationality does exist it must be recognized as such and, therefore, not be incorporated into the formal theory. Government action or inaction is the prime stimulus which can produce irrational behavior among individuals.

The following caveat is highly illuminating: "What shines out amid darkness is often false

and deceptive. The natural order is often upset by special interests which are always

pursued in secret or disguised as the general welfare [Eucken 1951,321]."

THE EVOLUTIONARY PROCESS AND