Mary Schapiro, the chair of the U.S. Securities and Exchange Commission, has announced that she will step down from her position next month after four years in office. President Barack Obama appointed one of the four other commissioners, Elisse Walter, to replace her until a more permanent successor is chosen next year. The latter appointment is likely to have momentous consequences, not only for the U.S. securities markets but also, and perhaps mainly, for the global architecture of financial standard-setting after the recent systemic financial crisis.
The SEC was created as an independent federal agency in the 1930s as part of the Roosevelt administration’s response to the 1929 stock market crash and the Great Depression. In recent years it has operated under domestic political pressures over such issues as its inability to prevent the Madoff Ponzi scheme, the regulation of money market mutual funds and various other cases of securities law enforcement. But the commission’s impact does not stop at the U.S. border. The securities markets over which it has jurisdiction are among the most internationalized parts of the financial world. The 1930s law grants the SEC decision-making authority in determining which accounting standards should be used by issuers of public securities in the United States. This makes it a crucial player in the global development of International Financial Reporting Standards (IFRS), a uniquely ambitious effort at harmonization of financial standards that has achieved remarkable milestones in the past decade. About half of the world’s 500 largest listed companies now use IFRS for their public financial reporting, up tenfold from a decade ago.
The SEC has had a somewhat paradoxical attitude toward IFRS. Broadly speaking, it has supported the International Accounting Standards Board (IASB), the independent London-based body that sets the standards, and has encouraged their adoption by other jurisdictions around the world, including the European Union in a landmark decision in the early 2000s. But it has been much more cautious about making IFRS part of its own US domestic order. Under Ms. Schapiro’s predecessor, former Republican Representative Christopher Cox of California, the SEC made it possible for non-US companies listed on U.S. stock exchanges to use IFRS in their reporting, rather than the domestic standards known as U.S. GAAP (Generally Accepted Accounting Principles). In 2007 under Ms. Schapiro’s tenure, the SEC designed a possible approach, colloquially known in the accounting community as “condorsement,” that would involve a gradual convergence between some U.S. GAAP standards and their IFRS equivalents, combined with an endorsement of other IFRS that would thus be directly incorporated into U.S. GAAP. But this no-nonsense, gradualist approach remains on the drawing board for now, as the SEC has yet to decide on it despite numerous reports and analyses from its staff. The lack of progress can largely be attributed to Ms. Schapiro herself, who as early as her confirmation hearings in January, 2009, made it clear that she was “not prepared to delegate standard-setting or oversight responsibility to the IASB.”
Accounting standards are one of the most important intangible infrastructures of capital markets, and their global harmonization is both a consequence and an enabler of cross-border financial integration. True, IFRS adoption per se does not deliver instant global comparability of financial statements: Financial reporting under IFRS comes in many dialects and accents, because some jurisdictions have not adopted them in full and many also do not enforce their application rigorously enough. Some of the IFRS standards themselves are unduly complex. Several of the IASB’s standard-setting choices have been legitimately questioned—even though many of the criticisms, including some of those directed at the use of so-called fair value accounting, have been tainted by special interests or political jockeying among regulatory bodies. The IASB’s governance and funding framework remains unfinished business and will require further reform. But in spite of all this, the evidence suggests that IFRS adoption makes sense. Many jurisdictions have adopted them in the past decade. The transition has occurred at manageable cost to issuers. Investors have generally applauded the change. Moreover, none of the IFRS adopters is considering moving back to national standards. Like the headaches that occur when a country adopts the metric system, misgivings and nostalgia abound at first, but the larger benefits of a widely shared system quickly become obvious.
The analogy with the metric system is incomplete, however. This is because accounting standards, unlike physical measurement units, are embedded in a wider social and political context that makes them far from neutral from an economic standpoint. For this reason, the successes of initial IFRS adoption may evaporate if the United States continues to dither over adopting these international standards. In other words, if Ms. Schapiro’s successor is unable to chart a clear path as to whether and how the United States might incorporate IFRS into its domestic system, the momentum towards accounting harmonization could go into reverse. The IASB’s framework might suffer if it is not anchored by the U.S. financial system, especially because most market regulators outside the United States are less committed to accounting standards that protect investors than the SEC.
In accounting as in other areas (such as the Basel III banking regulatory accord), U.S. leadership is more needed now than before the crisis. The goal should be to ensure that global financial markets remain open to cross-border activity while subject to consistent and binding rules that foster orderly market functioning. Pre-crisis, the European Union could act as an alternative source of leadership, as when the European Union adopted IFRS or, in a different way, with the Basel II accord on bank capital requirements. But Europe is now too absorbed by its internal difficulties to project this sort of global impact. Meanwhile, no Asian stakeholder, including China, is yet ready to take the baton of leadership, and other players are too small to drive the global process. President Obama should select someone who is keenly aware of this larger context as the next SEC chair.
Nicolas Véron is a senior Fellow at Bruegel in Brussels and a visiting fellow at the Peterson Institute for International Economics in Washington.