Harmonized Accounting Standards and Investment Beauty Contests

Abstract

We study the economic impacts of adopting harmonized accounting standards when firms' investments exhibit beauty-contest features. We model harmonized accounting standards as common/correlated noises in firms' accounting reports. We show that while more harmonized accounting standards have ambiguous effects on the reports' informativeness in representing firms' underlying fundamentals, they always reduce their usefulness in forecasting aggregate investments. Therefore, the stronger the beauty-contest features, the more important the forecasts about the aggregate investment, thus calling for less harmonized accounting standards. We also find that, absent beauty-contest features, mandatory adoption of harmonized accounting standards can be unnecessary; however, such mandate is warranted when beauty-contest features are strong as firms, when left on their own, would not voluntarily do so. Taken together, our results both provide a justification for and identify an unintended consequence of the recent mandates towards adopting harmonized accounting standards.

Keywords: Accounting Standards, Harmonization, Correlated Reporting Noises, Beauty Contest, Investment Externality, Information Spillover, Disclosure, IFRS Adoption

JEL Classification: M41, M48