Accountablity 1

1.
New Forms of Accountability and EU-Governance

The conclusion is that new forms of accountability enhance policy learning and
provide a series of formal and informal checks and balances but they are no
alternative to traditional forms of popular control.We therefore need traditional and
new forms of accountability regarding European governance.

One of the recurring issues in the debates about accountability and EU governance
is whether these new, multi-level forms of governance would require new forms of
accountability.Traditional accountability arrangements, such as the doctrine of
ministerial responsibility, have been based upon national institutions, such as
national parliaments.

Moreover ‘accountability’ often serves as a conceptual umbrella covering various

other often highly contested concepts.

the European Commission (2001, 2003) uses ‘accountability’ rather loosely.It serves
not only as a synonym for ‘clarity’, ‘transparency’, and ‘responsibility’, but it is also
equated with much broader concepts such as ‘involvement, ‘deliberation’, and
‘participation’.

Part of the ambiguity and contestation is caused by the very fact that for most
European politicians, lawyers and constitutional scholars, for whom English is a
secondary language, accountability is a germane concept to begin with.

While for policymakers with experience in the Anglo-Saxon tradition accountability

has been recognized as an organizing principle for a long time

In the American academic and political discourse, accountability is used

predominantly as a normative concept, as a set of standards for the evaluation of
the behaviour of public actors.

Accountability in this very broad sense is basically an evaluative, not an analytical

concept.It is used to positively qualify a state of affaires or the performance of an
actor.It comes close to ‘responsiveness’ and ‘a sense of responsibility’, a
willingness to act in a transparent, fair, and equitable way.

In British, Australian, and continental European scholarly debates, accountability

often is used in a much more narrow, descriptive sense. Accountability is seen as a
social mechanism, as an institutional relation or arrangement in which an actor can
be held to account by a forum

Both concepts, the broad one, in which accountability is seen as a personal or

organizational virtue, and the narrow one, in which accountability is defined as a
social mechanism, are very useful for the study of, and the debate about,
democratic governance beyond the state.
accountability comes from accounting — and define accountability as a relationship
between an actor and a forum, in which the actor has an obligation to explain and to
justify his or her conduct, the forum can pose questions and pass judgment, and the
actor may face consequences.

However, transparency as such is not enough to qualify as a genuine form of

(narrow) accountability (Fisher, 2004, 504), because transparency does not
necessarily involve scrutiny by a specific forum.

Actors are to account to a forum after the fact.

Similarly, there is a fine line between accountability and control.Some would equate
accountability with controllability (Lupia, 2003, 35; Lord, 2004, 136–159).However,
‘control’, used in the Anglo-Saxon sense, is broader than accountability and can
include both ex ante and ex post mechanisms of directing behaviour

Control means ‘having power over’ and it can involve very proactive means of
directing conduct, for example through straight orders, directives, financial
incentives, or laws and regulations.But these hierarchical, financial, or legal
mechanisms are not mechanisms of accountability per se, because they do not in
themselves operate through procedures in which actors are to explain and justify
their conduct to forums (Mulgan, 2003, 19).

These accountability relations can be classified on the basis of three questions:

1. to whom is the account to be rendered?
In the case of political forums, one can speak of political accountability.In the
context of EU governance, these could be a national parliament and in particular its
standing committee on European affairs, the European Parliament and its
subcommittees and commissions, voters in parliamentary elections or also the
media.Courts, such as the Court of First Instance and the European Court of
Justice.Next to the courts, a wide range of quasi-legal forums exercising
independent and external administrative and financial supervision and control like
European Ombudsman, Office Europe´en de Lutte Anti-fraude (OLAF), and the Court
of Auditors.

2. who should render account? Who is the actor required to appear before the
forum?
In legal procedures, it is often the organization as a corporate entity, which is held
accountable.This can be called corporate or organizational accountability.In most
instances of political accountability, it is only the top of the organization that is
called to account externally.This can be called hierarchical accountability. in the
case of individual accountability each individual official can be called to account on
the basis of his actual contribution instead of on the basis of his formal position.

3. why the actor feels compelled to render account?

This relates largely to the nature of the relationship between the actor and the forum
what could be meant by traditional and new accountabilities in the context of
EU multi-level governance?
the distinction is first of all a distinction between vertical and horizontal
accountability, or between actor–forum relations that have a principal–agent
character and relations that do not have such a character.In western democracies
the dominant public accountability relationships traditionally have been vertical and
follow principal–agent relationships.New mechanisms of accountability are diagonal
or even horizontal in character and include accountability to administrative forums,
to citizens, clients, and civil society.Also, more individual forms of accountability
have been introduced to supplement hierarchical accountability.the rise of
administrative accountability relations, through the establishment of ombudsmen,
auditors, and independent inspectors, does not fit within the traditional top-down,
principal–agent relationships.
Secondly, accountability forums increasingly adopt individual strategies of
accountability.They are not satisfied with calling only the agency or its minister to
account, but also turn to individual officials.Nowadays, in many European countries
individual civil servants cannot always hide behind their agency or their superiors
and can be held accountable by civil courts or sometimes even by penal courts for
their personal contributions to organizational misconduct.
Thirdly, the rise of quasi-autonomous or independent agencies has weakened the
legitimacy of the Weberian and Diceyan systems of political control through the
minister.Although ministers formally remain answerable to Parliament for the daily
performance of these agencies, they have far fewer powers of oversight and control
than before.
Fourthly, the rise of New Public Management, which went hand in hand with the rise
of quangos, has introduced more horizontal forms of accountability into the public
sector.Executive agencies have been turned into performance-based organizations
(PBO), and are being evaluated on the basis of targets, performance indicators, and
benchmarks, which have been laid down in (quasi) contracts.
In the fifth place, partly in reaction to a perceived lack of trust in government, there
is an urge in many western democracies for more direct and explicit accountability
relations between public agencies on the one hand and clients, citizens, and civil
society, including the media, on the other hand.The latter should become forums of
political accountability, so the argument goes, and agencies or individual public
managers should feel obliged to account for their performance to the public at large
or to civil interest groups, charities, and associations of clients.This is called social
accountability, because the accountability forums are located in the civil society.This
would be horizontal accountability in the true sense, as the complete hierarchical
chain, including Parliament, is surpassed and the agency, the minister, or the public
manager is meant to be directly accountable to the citizenry.

The multi-level character of European governance has added another dimension to

this, because public organizations may be held accountable both by national and by
European forums.

Increasingly accountability forums seem to come together to form multi-level

accountability networks, in which expertise and information is shared and in which
European and national forums work together to hold European actors to account
Accountability Deficits in EU Governance: Three Perspectives
In order to get some grip on these complex normative questions, I make yet one
more distinction.Public accountability is important to provide a democratic means to
monitor and control government conduct, it is important for preventing the
development of concentrations of power, and, finally, to enhance the learning
capacity and effectiveness of public administration.
One major accountability deficit from this perspective is the political accountability
of the Council at the European level.Neither the Council itself, nor its individual
members are accountable to any political forum at the European level.
For example, it has been argued that the rapid development of a European common
foreign and security policy (CFSP) and a European security and defence policy
(ESDF) have created serious democratic accountability gaps (Bono, 2002, ; Barbe´,
2004; Lord, 2004, 189–195).The European Parliament cannot significantly scrutinize
these activities, because they fall within the second pillar, and national parliaments
have only limited possibilities to be informed of the proceedings and to hold their
national representatives in the Council to account for the development of common
defence policies.

The EU is held together by an elaborate, multi-level system of legal, financial, and

administrative checks and balances.It has been a constant point of concern whether
the Commission itself, as the major executive power within the EU, is not prone to
corruption or other forms of administrative deviance.Thirdly, from a cybernetic
perspective on accountability, the purpose of accountability lies also in maintaining
and strengthening the learning capacity of the government.

New Forms of Accountability and European Governance: Taking Stock

First of all, diagonal or horizontal forms of accountability do not of themselves
enhance popular control of governance, because most of the forums involved are
not democratic forums.
Several of these diagonal forms of accountability are part of the trend (Mair, 2005) to
move away from popular control to more professional and technocratic forms of
control.
Similarly, social forms of accountability do not bring more democratic control in a
strict sense. Accountability to the media or to citizen panels and civil society
organizations is no full substitute for democratic control, because these forums are
not elected.Furthermore, they can only exercise informal or indirect sanctions and
do not have the power to vote the rascals out.

The conclusion is, as always, that it is not a matter of either traditional or new forms
of accountability.New forms of accountability can provide alleviations of some sorts
of accountability deficits in EU governance, but certainly not of all.They may
enhance learning and provide formal and informal checks and balances, but they
are no alternative to traditional forms of popular control.However, they can at the
least help to provide additional information for democratic forums.What we need
regarding European governance therefore, are traditional and new forms of
accountability.

2.
Agencification and regulatory reforms

Over the last two decades the classical model of hierarchical and integrated
government has been gradually replaced by a more horizontally structured and
fragmented arrangement.A central aspect of this development in many countries
has been a change in how regulatory activities are organized. Regulation based on
central command and control from the top has been weakened in favor of more
regulation by autonomous regulatory agencies.various theoretical approaches-
rational-economic, organizational-structural, and institutional-used to analyze the
development and effects of the new regulatory model.

creation of autonomous agencies will improve regulatory performance and efficiency

without having negative side-effects on other values such as political control and
democracy.

We will present theories behind regulation and agencification, describe how they
are implemented in practice, and discuss some of their effects and implications.

The use of central agencies within the regulatory state represents only one
instrument of regulatory policy. In practice regulatory policy is implemented using a
mixture of state regulation through independent agencies, self-regulation, and
commandand-control regulation.

agency model as an intermediate form between the integrated hierarchical model

and the more fragmented network model

Regulation is an ambiguous concept that can be used in both a broad and a narrow
sense. We can distinguish between three different meanings of the term.First, in the
narrowest sense regulation means formulating authoritative sets of rules and setting
up autonomous public agencies or other mechanisms for monitoring, scrutinizing,
and promoting compliance with these rules.Second, regulation can be defined more
broadly as all types of state intervention in the economy or the private sphere
designed to steer them and to realize public goals. This goes beyond rule-making
to include areas like taxation, subsidies, and public ownership. In this sense
regulation is an all-inclusive concept of governance. Third, regulation can be seen as
social control of all kinds, including non-intentional and non-state mechanisms.

Privatization,liberalization, and deregulation have produced a larger number of

autonomous formal organizations and this in turn increases the need for regulation
and regulatory agencies.
The idea is for the ministries to exercise arms-length control using performance
management -- a new and emergent regulatory form within the public sector often
linked to quasi-contractual arrangements in relations between agencies and
ministries.

the goals of the Regulatory State are much narrower, namely to improve the
efficiency of the economy, promote competition, and protect consumers and
citizens.It involves a shift from direct to indirect government, and important policy-
making powers are delegated to independent technocratic bodies with considerable
political leeway. The state is kept at arm’s length from direct participation in the
economy but has a well developed regulatory role.
In contrast to the traditional welfare-state model, which integrates regulatory,
operating, and policy-making functions, the regulatory state separates regulatory
activities from operational ones, purchasers from providers, and the policymaking
role from the operational role.

Agency and Autonomy. Regulation can be carried out through a variety of bodies,
such as parliaments, ministries, courts, local authorities, private-sector
organizations, and international organizations.Agencies have some autonomy from
their respective ministry in policy decision-making and over personnel, finance, and
managerial matters, but they are not totally independent, because political
executives normally have ultimate political responsibility for their activities.

Ministerial departments, state-owned enterprises, and companies are excluded from

the definition of an agency as are civil society, social, or voluntary organizations, and
sub-national and super-national agencies

The agency model is different from the traditional integrated bureaucratic model in
that it combines expertise, autonomy, and specialization of tasks in a narrow range
of policy issues (Majone 1997). There is separation both on a vertical dimension
between agencies and ministries and on a horizontal dimension between different
agencies responsible for different tasks. This creates a lot of organizational
complexity, potentially requiring more coordination

Agency autonomy is a multidimensional concept that is not linked to agencies’

formal legal status in a straightforward way. Agencies with the same formal status
might vary substantially in their autonomy (Pollitt et al. 2004), but they are still
organizationally distinct from ministries in the way they work. Variations in
autonomy may occur along different dimensions, with some agencies having more
policy or managerial autonomy, and others more structural, financial, or legal
autonomy (Verhorst et al. 2004, Christensen 2001). Autonomy along one dimension
does not necessarily mean autonomy along another dimension (Bouckaert and
Peters 2004, Tenbücken and Schneider 2004). There are differences between formal
autonomy, legal autonomy and de facto autonomy.

there are generally three conditions for agency autonomy:

political differentiation from the political executives; independent organizational
capacity; and political legitimacy generated by a strong organizational reputation
embedded in an independent power base

Regulatory agencies are a sub-group of central agencies and one of their main tasks
is to control the power of the market, ensure fair competition, and protect
consumers and citizens by guiding and implementing policy regulation.

Generally, regulatory agencies have more autonomy than agencies with managerial
tasks.

Not all central agencies are regulatory agencies and not all regulation is conducted
by agencies.

We will distinguish between three broad approaches: a rational-economic

perspective represented by public-interest theory and interest-group theory; an
organizational-structural perspective, based on bounded rationality; and a broad
institutional perspective, encompassing both cultural models and theories
addressing isomorphism, myths, and translation.

Rational economic models focus on interests and intentionality and assume rational
actors with clear, consistent, stable, and a priori goals, scoring high on rational
calculation and social control and hence able to fulfill their interests

1.Public interest theory. The theory allocates central importance to the interests of
individuals acting within free markets in which there is a voluntary exchange of
goods and services (James 2000). According to this theory, a main reason for
economic regulation is to correct market failures that prevent markets from
operating in the public interest, such as externalities, market power, natural
monopoly, and information problems (Beyer 1982, Noll 1989, Ogus 1994). Another
reason is the protection of rights, often labeled social regulation, and pertains to
such things as equity questions, the correction of past or possible future
discrimination, and the protection of public interests in fields like health, safety, and
the environment (McGowan and Wallace 1996). A main concept in this perspective
is that of common interests. Hence, regulatory rules are supposed to enhance
justice and fairness (Baldwin and Cave 1999).

The official model or the practitioner’s model of agencies is close to this kind of
thinking

Disaggregating agencies from the ministries, giving them more autonomy and
more responsibility for regulatory tasks, and holding them accountable for their
performance is expected to improve efficiency and thus produce better regulation.
The assumption is that the agency model has been chosen because it is the most
efficient organizational form.
This is an ideal model whose assumptions about the understanding, capacity, and
authority of decision-makers and organizations would seem to be unrealistic. It also
avoids addressing the formulation of goals or conflicts over goals, and has a
normative leaning towards anti-political sentiment (Aberbach and Christensen 2003).
Thus, it needs to be supplemented with other theories that are more concerned with
how to act in an uncertain, ambiguous, conflictridden, and unstable world and that
also pay more attention to the role of political and administrative executive leaders
and the structural context in which they operate.

2.Self-Interest and Regulatory Capture. Economic theories of business regulations

identify various forms of regulatory failure, often based on a rational choice
approach (James 2000). This economic theory of regulation combines economic
analysis with analysis of political behavior (Peltzman 1998), and it asserts that
special interests and interest groups will try to pursue their own goals and influence
the outcome of regulatory processes. A main focus is on power relations and self-
interested economic and political competition for scarce resources. In one scenario,
regulators might go ‘native’ and be captured by the interests they were designed to
regulate, leading regulated organizations to lobby for regulation from which they will
benefit.The second scenario addresses what is sometimes called a bureau-shaping
perspective (Dunleavy 1985, James 2003), whereby in a regulatory state an increase
in regulation might be explained in terms of the benefits bureaucrats expect to
derive from devising new regulations (Majone 1994). One outcome might be that
autonomous regulatory agencies begin to set their own standards rather than those
formulated by the legislature and the political executive. Third, a lack of cooperation
between regulators and regulated organizations and the high transaction costs
ensuing from different institutional arrangements might make regulation too costly
(Scholz 1991). This might in turn produce “agency drift” with high costs for
monitoring, the application of sanctions, and enforcement (Lodge 2001).

According to this way of thinking, regulatory rules are the result of a political contest
between the different interests represented by politicians, agencies, and market
actors. Its adherents are rather skeptical about the benefits to be derived from
regulatory reforms and the establishment of autonomous agencies.

The Organizational-Structural Perspective.

A main feature of the organizational approach is the concept of bounded rationality
which presupposes that decision-makers have limited time and attention and
therefore cannot address all goals, all alternatives, or all consequences.According to
an organizational-structural perspective, central actors in the field of regulatory
policy act on behalf of formal public organizations. Their attitudes and actions and
thus the content of the regulatory policy they formulate are formed by the
organization they belong to and the organizational setting in which they operate.

An organizational approach presumes that one has to study how the public sector is
organized to understand the development of regulatory policy and its effects. It
makes a difference whether the central governmental apparatus is an integrated
system under ministerial responsibility or a more fragmented system of semi-
autonomous organizations; whether it is a parliamentary system or a checks-and-
balances system; whether it is specialized according to function or according to
geography; whether the state is a unitary or a federal one; whether private sector
interests are integrated into regulatory decision-making processes or excluded;
whether agencies have tight networks with multinational organizations or not; and
whether specialization is more horizontal or more vertical.

It is not enough to focus on the narrow internal governmental organizational

structure alone, for the nature of tasks as well as external organizational
connections and constraints also play an important role.

A main lesson from this approach is that formal organizational structures are
important in shaping organizational regulatory behavior and changing regulatory
processes.Political and administrative leaders are important in shaping regulatory
structures. They do not, however, only act on the basis of their hierarchical position
but are also constrained by cultural traditions and environmental factors, elements
we now turn to.

Institutional Perspectives.
The institutional perspective challenges the hegemony of the rational reform and
agency model (Brunsson and Olsen 1993) and it rejects the functional view of
agencies underlying the rational approach. It is also skeptical about the explanatory
relevance of the organizational-structural perspective (Selznick 1957). In institutional
models informal norms, identities, and the logic of appropriateness are more
important than interests and intentions and the logic of consequentiality.Ideas and
culture are central features and can be located within organizations and
administrative systems or in the environment. A cultural approach implies that
regulation and changes in regulation are products of cultural traditions and path
dependency, but also of symbols, organizational rituals, cultural constructions,
taken-forgrantedness, interpretation, and rhetoric.

1.Institutionalized organizations. This variant of institutional theory focuses more on

informal norms and values within agencies and political-administrative systems.The
reform road chosen reflects the main features of national institutional processes,
where institutional “roots” determine the path or “route” followed in a gradual
adaptation to internal and external pressure.Change is characterized by historical
inefficiency, incrementalism, and ‘revolution in slow motion.’ What happens in one
country is not a blueprint for developments in other countries (Gains 2004). Specific
national policies and regulations for managing health, safety, and environmental risk
continue to diverge (Vogel 2003). Regulatory reforms reinforce distinctive underlying
national trajectories and historical legacies, and functional pressure highlighted by
rational theory is mediated and constrained by cultural-contextual factors.

This theory will predict diversity more than homogeneity in regulatory forms and
agencies across countries, state traditions, and administrative cultures.

2. Institutional environments. This is a social constructivist approach focusing on

external norms and different ways of constructing and interpreting regulatory reality
(Morgan and Engwall 1999). Regulatory rules depend on the situation, the context,
and the environment in which they are formulated. The general argument is that
normative structures lead to symbolic diffusion and borrowing of the autonomous
regulatory agency form. Governments act interdependently and look to other
governments for inspiration.

There is a tendency to follow fads, fashions, and dominant ideas, so that copying
and diffusion are main mechanisms (Levi-Faur 2001). Increased liberalization is
perceived as inevitable – the deterministic TINA principle (There Is No Alternative) -
and the choice for political leaders becomes more about when and under what
conditions they should liberalize rather than whether they should do so at all. In
addition, organizational forms tend to spread from country to country.

A variant of this approach is the literature on translation, which argues that

regulation isreshaped even as it spreads. It asserts that regulation is translated,
edited, and modified locally and it takes issue with the idea of regulatory
homogenization offered by the isomorphism approach. What is spread is not
practice but standardized models and presentation of practice (Czarniawska and
Sevon 1996, Sahlin-Andersson 1996, Sahlin-Andersson and Engwall 2002, Røvik
2002, Smullen 2004). The translation theory will predict a lot of diversity within a
general agencification trend, in other words, it lies somewhere between the two
main institutional perspectives.

Blending the perspectives. We argue that single-perspective studies have limitations

and we therefore try to take a broader, more mixed approach that combines
different perspectives. Rather than assuming a single dominant logic, one should
explore different kinds of logic used in a complementary way for different purposes
and in different contexts and situations.
The Development of Regulatory Reform and the Agency Form.

Central agencies are key institutions in most developed countries (OECD 2002a).
They are popular organizational forms in contemporary administrative reforms and
have expanded in number and importance over the past decades.A study of
regulatory agencies in six policy areas in 36 countries reveals that the number of
regulatory agencies increased from 28 in 1986 to 164 in 2002.
In contrast to the old integrated model in which policy-making, regulation, and
service-delivery were unified under ministerial control, the new single-purpose-
organization model envisages specific organizations for specific tasks and activities.
The willingness to delegate authority to non-majoritarian institutions, which fulfill
public functions but are not directly accountable to voters or their representatives,
seems to be increasing

The spread of the new regulatory paradigm has not lead to convergence in the
organizational design of regulatory agencies. Tenbücken and Schneider (2004) label
this parallel process of stability and change “divergent convergence.”

Deregulation is often the first step towards re-regulation, but in a new form.Neo-
liberalism promotes deregulation at the ideological level, but in practice it is
accompanied by more regulation.The number of rules have not decreased but
increased in the era of neo-liberalism (Ahrne and Brunsson 2004). This paradox is a
central feature of regulatory reform.

Regulatory reforms and liberalization often imply new forms of regulation rather than
deregulation in practice.

Summing up, in contrast to the deregulatory aspects of New Public Management,

which was supposed to roll back the state and give first priority to market interests,
this trend has enhanced the growth of the Regulatory State.

Regulatory agencies were created to remove regulation from direct political control
and as an alternative to public ownership.

The Regulatory State was for a long time an expression of “American

exceptionalism.”Since the mid-1980s regulatory reforms have become a central
feature in the European Union as well as a main issue for the OECD.

Summing up these differences, the argument is that the Regulatory State and its
distinct structural features are contingent on national settings, state traditions, and
administrative cultures.

When discussing the effects and implications of regulatory reform it is important to

look not only at narrowly defined effects like efficiency and economy but also at the
broader spectrum of effects, such as changes in accountability, legitimacy, and
power relations.
Normally there are overlaps in responsibility and there often exists a “discretion
zone” or a “zone of indifference” in which regulatory agencies can operate in the
shadow of political executives and make autonomous decisions. If they go beyond
that zone, politicians might interfere and strengthen their control, so anticipated
reactions also play a role. This means that the relationship between political and
administrative executives might be expressed more in terms of ebb and flow than as
a linear development towards less political control.

This is, however, not always the case and some of the main challenges in regulatory
reforms are related to problems of implementation, coordination, accountability, de-
politicization, legitimacy, and power. In the following, we will briefly address each of
these issues.

1.implementation.the implementation process may still involve negotiations, flexible

cooperation and mutuality and informal control and steering despite the more formal
nature of the new regulatory regime.The shortcomings or pathological aspects of
regulation, such as “regulatory creep”, “agency drift”, information asymmetry, and
biased bureaucratic behavior are well known (Sustein 1990, Grabovski 1995, Hood
et al. 2004). While the agency concept may occupy a dominant place in the rhetoric
of reforms, it may in fact face significant challenges during the implementation
process, which might be more incremental than radical,

2.Coordination.The fragmentation of public administration by growth,

disaggregation,structural devolution, and the establishment of single-purpose
organizations might reduce central policy capacity (Christensen and Lægreid 2005)
and increase coordination problems.The specialization involved in creating single-
purpose agencies tends to increase the difficulty of coordination and the capacity
problems of political executives, because more issues and policy questions are
channeled up to the ministries and the cabinet, instead of being weighed up and
decided lower down in the hierarchy

3.Accountability.A main concern arising from agencification and regulatory reforms

is the problem of accountability (Flinders 2004b): how to make agencies
independent and at the same time accountable. The autonomy of regulatory
agencies from government may lead to agency capture, creating a problem of
democratic accountability; some scholars talk about an “accountability deficit”.A
central accountability issue is how the relationship between government and
regulators impinges on ministerial responsibility. It is generally accepted that
ministries should be allowed to give some interpretative guidance to the regulators
in how to carry out their function; however, this is expected to be general guidance
and not directed at specific cases. One problem with such guidance is that it tends
to be informal and not given publicly (Graham 1998). Another is that frame-steering
often makes political executives feel they are losing control, since specific cases,in
which they are not supposed to interfere, can have general implications.
4.Legitimacy.The emerging Regulatory State has been accused of lacking
legitimacy and criticized for undermining political accountability, individual
participation, and universal services (Lodge 2001). Indeed, weaker vertical
accountability may produce a larger legitimacy gap.The accountability challenge
appears less threatening if one takes consumer sovereignty approach, which
underlines the importance of individual choice. In addition, the delegation of
regulation to non-elected decisionmakers may prevent short-term political
interference and produce more credible decisions

The traditional standard of legitimacy within representative democracies is

government by majority rule. In the Regulatory State this standard of legitimacy is
supplemented by expertise and by a “Madisonian” model, which aims to share,
disperse, delegate, and limit power by placing public authority in the hands of
officials who have no direct or only weak accountability to either political majorities
or minorities.

5.De-politicization.Behind the idea of establishing autonomous agencies lies the

assumption that it is possible to separate politics from administration and to
insulate certain decisions from political considerations.It is necessary to distinguish
between the de jure formal level of autonomy and de facto autonomy, which may
vary according to contextual circumstances, such as political salience (Pollitt et al.
2004), but also according to administrative culture, reputation, networks, and
entrepreneurship.Thus, real agency autonomy might not correspond with formal
agency autonomy (Yseilkagit 2004). Politicians might use informal channels to
influence the decisionmaking of agencies and thus undermining their formal
autonomy, and there might also be situations of regulatory capture, in which those
subject to regulation constrain the autonomy of the agencies.

6.Power.Regulatory policy and the creation of autonomous agencies is not only a

question of political and administrative efficiency but also of the redistribution of
power within the polity.This development tends to strengthen administrative and
technocratic bodies, public commercial units, experts, professionals, and
bureaucrats and to weaken elected representative bodies and political executives.
One observation is that power relations seem to be changing faster than
accountability relations

Summing up, the issues raised by the Regulatory State are strongly interrelated and
present some difficult challenges. One way to proceed is to try to gain a better
understanding of the similarities and differences between regulatory agencies and
other agencies, as well as of the roles of regulatory agencies in relation to other
regulatory bodies.

Three of the most prominent external forces driving the spread of the regulatory
state are the neo-liberal New Public Management (NPM) movement, the EU, which
has been strengthened as a regulatory entity, and the OECD as a promoter of
regulatory reform.First, the rise of regulation as a mode of policy making is an off-
shoot of the NPM reform trajectory and its focus on privatization, especially in the
area of public utilities, and its emphasis on disaggregation and structural devolution
within the public sector aimed at putting more distance between public agencies
and politicians.

A second important factor for understanding the rise of the Regulatory State in
Europe is greater European integration and the emergence of the EU as a regulatory
body focusing on competition and the development of a free internal market.
One difference between regulatory bodies at the national and the European level is
that the latter also focus on regulation of the regulators.

A third central actor in the emergence of the Regulatory State is the OECD as a
producer, certifier, and carrier of new reform ideas, prescriptions, and doctrines.

The concept of distributed public governance, produced by the OECD and used by
the EU, refers to the emergence of quasi-independent non-majoritarian and non-
governmental organizations.

Other international organizations important in the field of regulatory policy are the
WTO (Veggeland 2004) and the World Bank, which have encouraged the creation of
autonomous regulatory authorities and claim that formal oversight agencies are one
of the critical success factors for civil service reforms.

models vary considerably both between countries and within the same country. This
diversity is often the result of economic factors, the instrumental power relations
surrounding political and administrative actors, and the national cultural context.
Another main lesson from this review is that there is no best way to manage and
control an agency and no one-factor explanations. In other words, there is no single
best theory which can explain regulatory activity and agency behavior in all
situations, everywhere, and at any time (Pollitt 2004).

3.
Regulatory Networks and Regulatory Agencification: Towards a Single
European Regulatory Space

(a) how agencies replace networks in a process that might best be called
‘agencification’; (b) how agencies compete with networks and are often able to
create, employ, and control them, creating what might best be called ‘agencified
networks’; and (c) how networking empowers agencies creating a new type of
regulatory organization that might best be called a ‘networked agency

Yet beyond the Commission, which can be thought of as the traditional and most
capable actor in the EU regulatory regime, two important institutions have recently
appeared: agencies and networks.

Both institutions represent emerging modes of administrative governance, and their

rise reflects a process of architectural design that might be called ‘governancing’,
echoing the transformation from ‘government’ to ‘governance.

While agencies commonly represent the fragmentation of regulatory authority and

the delegation of responsibility (even if limited) from the ‘political’ Commission to
‘professional’ and independent institutions, networks represent an effort to
harmonize the fragmented institutional landscape.

When compared with the Commission and agencies, networks appear to represent
less hierarchical and more open and collegial modes of governance.

If agencies represent the fragmentation of regulatory authority, then networks

represent an effort to harmonize the fragmented institutional landscape.Taken
together, however, they open a window on the politics of the design of EU
regulatory institutions.

The boundaries between networks and agencies are becoming more blurred. Two
interesting hybrid organizations, a ‘networked agency’ and an ‘agencified network’,
were identified, and the relations between the networks and the agencies are
understood as important features of the European governance mix

MAPPING THE SERS(European Regulatory Space)

agencification on the one hand and ‘networkation’ on the other may serve as
indicators of changes in the organization of the state, of the economy, and of civil
society.

An agency is defined as an administrative organization with a distinct, formal identity,

an internal hierarchy, functional capacities, and, most important, at least one
principal

It is important to note that in the EU system of governance, despite the rise of

agencies and networks, the Commission is generally the major regulatory institution

The four functional tasks of regulation – information gathering, rule setting,

monitoring, and enforcement.

A network is a set of relatively stable relationships of a non-hierarchical and

interdependent nature which link a variety of actors.
Unlike agencies, networks often do not have principals or administrative and
independent financial capacities. Their decision rules are flexible and informal, and
membership of them is voluntary.

The rise of regulation can be understood as a ‘war on the informal’ and an effort to
formalize all social and political institutions.

Recognizing this leads me to conceptualize agencies and networks as two distinct

types of organization. They differ in the extent and scope of the formalization of their
decision rules; the extent of their administrative capacities; the extent of their
internal hierarchies; and the existence of external principals.

When voluntarism and mutual interdependence are prioritized, networks are the
preferred institutional form.

Another way to think about and conceptualize their advantages is to see them as
agenda setters, consensus builders, co-ordination mechanisms, exchanges of
information and knowledge, and norm setters.

The most important difference between agencies and network is not so much in
function as in the degree to which they can develop administrative and regulatory
capacities, and can be subject to accountability and transparency requirements. On
these three grounds – capacity, accountability, and transparency – agencies are the
‘natural’ choice.

When resources are limited and political commitment is weak – network might be
the preferred form of choice.

Three processes of institutionalization and de-institutionalization are important to

understanding the intuitional architecture of the SERS: governancing, agencification,
and networkation.

Governancing’ is the act of designing governance systems. If governing is the act of

government and the design of a hierarchy of governmental institutions, then
governancing is about decentralization of power and the creation of decentralized,
informal, and experimental systems of governance.

‘Agencification’ is one strategy of governancing. It is the process of formalizing roles

and missions in organizations with spatial boundaries and formal identities, either by
the devolution of functions from the core organization or the creation of new
organizations for performing new functions.

‘Networkation’ – or the creation and formalization of networks – is also a strategy of

governancing because networks are associated with governance rather than
governing.it is the process of formalizing roles and missions in loose organizations in
a way that bridges the gaps between insulated hierarchies to form a network of
stable and interdependent relations.

agencies are more resilient than networks, which tend either to disappear or to
become more dependent on agencies and other hierarchies.
A distinction is commonly made between economic regulations and social
regulations. Economic regulations include those that aim to shape the organization
and the governance of the market. They can be constitutive (about the creation of
markets) or corrective, that is, directed towards market failures such as monopolies
and cartels.Social regulations include those that aim to shape the organization and
the governance of the social aspects of human life.
Social regulation agencies have more diverse functions and institutional designs
than economic regulation agencies. They come in multiple forms such as safety
regulation, health regulation, integrity regulation, moral regulation, rights, and
environmental regulation.

Two hybrid organizations, a ‘networked agency’ and an ‘agencified network’, were

identified, and demonstrate the accountability and efficacy challenges facing EU
governance. The European Environmental Agency (EEA) demonstrates the extent to
which agencies can collaborate with networks and indeed acquire network
characteristics.

Bringing together agencies and networks within one framework of analysis

demonstrates (a) how agencies replace networks, displaying an evolutionary
trajectory of development (Thatcher and Coen 2008) in a process that might best be
called the ‘agencification of networks’; (b) how agencies compete with networks and
are often able to create, employ, and control them, creating what might best be
called ‘agencified networks’; and (c) how networking empowers agencies (Martens
2006; 2010; Zitto 2009), creating a new type of regulatory organization that might
best be called a ‘networked agency’.

4.
Transnational standard setting in accounting: Organizing expertise-
based self-regulation in times of crises

The last four decades have seen the rise of the International Accounting Standards
Board (IASB) as the core locus of transnational accounting regulation.
The purpose of this paper is to focus on recent changes in governance and
accountability of IASB in the aftermath of the financial crisis. Emphasis is given to
the organizational configuration, the ambivalence of consultation procedures and
reactions to mounting criticism after the crisis.

During the financial crisis, accounting standards have become the object of
substantial criticism.
accounting constitutes a notable exception: it is the only field where standards are
set by a private organization.All other fields, whether macroeconomic policy, data
transparency or financial regulation and supervision, are dominated by international
organizations in which states or public entities are central actors.

I have organized the paper as follows: First, I provide an overview of the literature
explaining the emergence of the IASB as a global standardsetter drawing on
approaches in accounting studies, political economy and sociology. Second, I
explain the organization’s current structure, the importance of core actor groups
and recent changes in dealing with the interested public. Third, I take an in-depth
look at one of IASB’s consultation procedures as a specific approach to enhance
the organization’s legitimacy, both in practical terms and as a rhetorical strategy,
and thereby shaping accounting professionalism internationally. Fourth, I discuss
the IASB’s reaction to calls for the organization to change course in the aftermath of
the financial crisis. This section shows how the IASB managed to defend its unique
position by renewing organizational structures and including relevant third parties. A
fifth section summarizes and concludes the paper.

The paper makes two principal arguments to explain transnational standard setting.
First, it discusses the importance of legitimation for cross-border private self-
regulation.Second, the paper points at the IASB’s ability to address legitimacy
issues and to uphold self-regulation in the face of criticism.

accounting standardization is seen as a multilevel activity with distributed agency

the concept of an “accounting constellation” which is comprised of a particular field

of relations existing “between certain institutions, economic and administrative
processes, bodies of knowledge, systems of norms and measurement, and
classification techniques

The complementarity of rules, procedures and actor-constellations is seen as a case

of effective transnational institution-building, allowing the IASB to establish itself as
an independent standards-setter of quasi-binding rules.

Knowledge systems are a core element and power resource of professional

influence even though organizational expressions of professionalism in accounting
are changing.

Today’s knowledge base is substantially influenced by large auditing firms. The

internationalization of audit firms and the concentration of auditing markets have
given rise to a small group of large professional services firms. The Big Four auditing
firms (PwC, Deloitte, KPMG and Ernst & Young) offer a wide array of services,
including audit, tax, consulting, advisory, actuarial, corporate finance and legal
services.

The Big Four are excellent training grounds as they facilitate the gathering of
experiences, soft skills and “technical” knowledge that are difficult to acquire
elsewhere.
For years, the four firms contributed a third of the IASB’s budget.

The rise of the Big Four – together with the emergence of the IASB as global
standards-setter – challenges national professions as loci of expertise in
accountancy

In part, such conflict of interest is a core element of expertise-based rule-setting

Over time, the IASB’s consultative mechanism, called “due process,” has developed
into a “commonly accepted procedural framework” both to incorporate varying
ideas and to mediate conflict

At the transnational level, such attempts to establish legitimacy are even more
challenging than for national organizations, as the IASB needs to acquire “the
rightfulness and appropriateness of authority” to issue global standards in
accounting. The IASB therefore seeks legitimacy from various sources, seeking
“input,” “throughput” and “output” legitimacy.

Input legitimacy aims at including stakeholders and third parties that have an
interest in the setting of standards. Throughput or procedural legitimacy seeks
acceptance for the organization’s activities through transparent and reliable
procedures of consultation. Output legitimacy, which is acknowledged as
particularly important in expertise-based rule-setting, concerns the adoption and
diffusion of IFRS by preparers, auditors and regulators.

Organizing legitimacy in transnational accounting standardization: structural

reform
The most notable change has been a transformation of the standards-setting
organization from a federation of national professional associations to a free-floating
self-regulated standards-setting organization.
The most radical organizational change took place in 2001, when the organizational
structure was transformed from a loosely knit federation of national professional
associations into an increasingly complex standards-setting organization –
operating independently from public oversight and with no statutory organizational
membership

The IASB’s intensification of direct cooperation with standardssetters sends a clear

signal that the organization is not simply developing best-practice standards, but is
eager to ensure one set of globally harmonized de facto binding standards.

But while the US-American standard setter FASB is accountable to the Securities
and Exchange Commission and ultimately to Congress, IASB is not subordinated to
any external authority. No formal accountability relations have been established so
far.

The IASB’s board is the organization’s core decision-making body. It has been
slightly expanded from 14 to 16 current members, three of which might be part-time.
(four members from North America, four from Europe and four from Asia/Oceania,
one from South America, one from Africa and two from any of these areas)

While trained accountants remain important for board composition, three

characteristics of change are noteworthy

Over time, the IASB intensified efforts to integrate individuals with more specific
knowledge about the information needs of the users of financial statements, such as
analysts and investors.also background from emerging markets,namely China, India
and Brazil,board members have spent years in national and international
standardization activities.

Throughput legitimacy rescuing expertise-based standards-setting

through consultation

The IASB is unique amongst global core standards-setters, not only because of its
private nature, but also because of its sophisticated consultation procedures which
are a core aspect of ensuring its legitimacy. The organization’s due process is key to
acquiring credibility and preserving self-regulation in accounting

In the IASB’s constitutional revision of 2005, “technical expertise” was defined as

the single most important recruitment characteristic for board membership

Expertise therefore remains a prime source of the IASB’s authority when developing
and setting accounting standards. Such an orientation echoes anti-statist rhetoric
and a strong belief in laissez-faire approaches advocating professional self-
regulation.

The mismatch between the due process relevance for the board in setting standards
on the one hand, and the rhetorical display of the process’s role on the other,
indicate the delicate balance the IASB needs to strike between opening up to the
outside and maintaining social closure.

To close accountability gaps, the IASB strongly emphasized the role of transparent,
orderly and documented procedures of standard setting. The IASB’s due process
became the cornerstone of the organization’s strategy both to fend off stakeholder
requests – deemed partisan and inappropriate by powerful insiders – and to
legitimize private expertise-based standards-setting.

In contrast, output legitimacy is more closely tied to the idea of professionalism.

Recognition of IFRS by the users, preparers and auditors is an important element of
output legitimacy

Their diffusion and adoption is vital, as formal recognition of IFRS by regulators and
overseers becomes increasingly important to the organization. This is reflected in
the cooptation between national and international standard setters in different IASB
bodies (Botzem, 2012, p. 153). The IASB uses its core position and its framing
capacities to influence accounting professionalism at the international level. Its
power derives from combining the expertise assembled internally with an ideology
of self-regulation making the IASB successful in developing rules with the potential
of global diffusion

The broader inclusion of participants (input legitimacy) into the IASB’s advisory
bodies fortifies the status quo of accounting standardization with private business
(users, preparers, auditors), academics and selected regulators making up the
organization’s core interest groups.

Private transnational standard setters need to establish additional sources of

legitimacy if they want to enjoy public recognition without needing to be
accountable to public authorities. Consequently, procedural legitimacy becomes
central to bridging this divide, both formally and rhetorically, by using specific
institutional vocabulary.

guiding the IASB’s procedures are said to be three underlying principles of

consultation (transparency, full and fair consultation and accountability)

due process handbook included a list of concrete steps to be followed: agenda

setting, project planning, publication of discussion papers (voluntary round of initial
public comment), publication of exposure draft (mandatory round of public
comment), standard development and publication, and post standardization follow
up
Today’s handbook does not explicitly refer to these individual steps anymore but
continues in this spirit.

“Comment letters play a pivotal role in the deliberations process of both the IASB
and its Interpretations Committee, because they provide considered and public
responses to a formal consultation”

Written interaction with the interested public is at the heart of the due process.
Drafts are issued by the IASB and responses are invited to specific discussion
papers or exposure drafts. Such drafts include newly formulated (or revised)
wording and invites comments upon the precise suggestions proposed by the IASB.
A period for public comment normally lasts 120 days and comment letters are
subsequently published on the organization’s web site along with the drafts. Within
the realm of these provisions, the constitution makes clear that the board of the
IASB has “complete responsibility for all IASB technical matters including the
preparation and issuing of IFRSs (other than interpretations) and exposure drafts,
each of which shall include any dissenting opinions

The staff carries out the research, draft suggestions, reports to the board and
consults with the staff of other standards-setting bodies, most importantly the FASB

Legitimacy problems with consultation procedures run deeper, most importantly for
two reasons.
First, a proper application of the due process might help to counter one-sided
influence, but offers no certainty against it. Direct evidence is hard to trace, but
empirical findings of who actually participates in the IASB’s consultations
underscores the constant interest and engagement of the financial industry and big
auditing firms in particular.
Furthermore, it can be assumed that any actors with material interest in the setting
of standards, be it preparers, users or auditors, continue to use manifold ways of
influencing the IASB, “striving to ensure that their interests are given due regard in
standards development.

the global, multilevel diffusion of the IASB’s discussion papers and exposure drafts
ensures that the standards-setter’s ideas and arguments are distributed fast and
wide

The due process is a cornerstone for the IASB’s legitimacy strategy. The
appreciation for transparency and administered outreach have turned the due
process into a powerful tool for the IASB to make up for its deficiencies in input
legitimacy, while being able to preserve global expertise-based self-regulation.

IASB’s reaction to the financial crisis

In many aspects, the financial crisis of 2007-2009 was also a crisis of global
accounting standard setting.
Political criticism emerged quickly and addressed fundamental issues, such as the
procylicality of IFRS due to its fair value orientation, the IASB’s lack of accountability
to public authority, the lack of sufficient procedures for setting standards, but also
the content of standards – most notably off-balance sheet provisions.

Both the FASB and, shortly after, the IASB opted to depart form the principles of
FVA.In practice, breaking with FVA was justified by the rare circumstances of the
crisis. Technically, it was achieved by issuing guidance on how to reclassify assets
held by financial institutions from the trading book to the banking book.In the USA,
banks in particular were pressuring heavily to be granted the option of holding
assets not for trading at their respective fair value, but “for maturity,” which exempts
them from applying FVAs to their assets. The IASB followed suit to ensure that such
accounting rules would apply both in the USA and in Europe, the single largest
jurisdiction applying IFRS.

The European Commission became an advocate of changes in IAS 39 and IFRS 7

(including additional disclosure requirements) to cushion the effects of the financial
crisis.

To sum up, while the IASB broke its principles by allowing an unwanted
reclassification – essentially departing from FVA in crucial matters – the organization
showed to be adaptive to overwhelming commercial and political pressures, thereby
preserving FVA in the long run (Botzem, 2013). Had the IASB simply adhered to its
normative fundamentals, it might have put the entire private standards-setting
regime in danger. A trap the IASB was smart enough to avoid.
With regard to the organizational set-up, the introduction of the Monitoring Board
was also framed as a reaction to the financial crisis, despite plans to form the board
preceded the crisis.

Conclusion: reconfirming transnational accounting self-regulation

The present state of transnational standard setting in accounting cannot be

assessed without understanding the IASB. Over the years, the IASB has
substantially changed its organizational set-up and has grown into an effective and
powerful player in crossborder accounting regulation. Despite explicit criticism after
the financial crisis, the IASB reemerged strengthened and consolidated its position
as global standard setter.

Today’s IASB is composed of a multitude of advisory and oversight bodies that

shield expertise-based decision making. The IASB’s board is insulated from what it
deems undue commercial or political pressures. It is made up of hand-picked
individuals that exercise their standards-setting authority independently according
to the rules set-out in the organizations’ constitution.
The IASB has become a central entity – arena and actor – defining the body of
knowledge in cross-border accounting.

Expertise is shifting away from national professional associations (cf. Greenwood et

al., 2002) but also from national standard setters, perhaps with the exception of the
FASB. In contrast, the IASB has become a central node in transnational accounting
regulation.

In a time when the diffusion of IFRS is increasingly global, it becomes clear that
output legitimacy alone is insufficient to acquire accountability. Instead of opening
up decision-making to societal stakeholders and interest representation, the IASB
opted for selective inclusion of capital market actors, notably investors, preparers
and some regulators.Such a move, while not satisfying democratic requirement,
showed at least some awareness of weaknesses in participation and somewhat
improved input legitimacy.The partial improvements of input and output legitimacy
were accompanied by moving throughput legitimacy into the spotlight, with
consultation becoming one of the IASB’s core legitimation strategy.
Its due process is a sophisticated tool of stakeholder engagement that plays a
central part in the organization’s rhetoric. Praise by other transnational actors
indicates the IASB’s success in framing consultation as an adequate mode of
outreach, while in practice it serves the organization well by allowing it to manage
information inflow and to filter and reinterpret stakeholder opinions. Without the due
process – despite the limitations of influencing decision-making – the IASB would
most likely have been unable to maintain its core position in transnational
accounting regulation.

It provides the board and staff with some sway to mediate conflict and contestation
among the interested public that does participate in consultation procedures. More
importantly, the due process, its rigorous application and the high degree of
transparency, equip the IASB with a valuable tool to fend off criticism.

It speaks in favor of the IASB’s strategic abilities that the organization managed to
convince public and private actors that sophisticated consultation suffices to guard
technocratic decision making. From a democratic perspective, the selective mode of
decision making, however, remains worrying. The IASB’s depoliticization of
transnational accounting standardization continues to obtain acceptance.

5.
The Political Economy of International Accounting Standards

This article argues that the IASB’s introduction of fair value accounting reflects and
reinforces changed relations of production in which the financial sector increasingly
dominates the productive sector, nationally institutionalized economic systems are
undermined, and new forms of economic appropriation

In contrast to more functionalist views, this article argues that accounting standards
are inherently political.

Resolution of social conflict over resources is not simply recorded by accounting

after the event; rather, accounting numbers themselves form the basis for such
resolutions.
First we explain how newly instituted accounting techniques for defining and valuing
business assets, chief among them fair value accounting (FVA), are integral to the
ongoing reorientation of the international political economy
Second we argue that although the IASB is not the root cause of this reorientation, it
has nevertheless served to codify the political economic changes through the
introduction of new accounting standards.

we instead argue that the new standards represent a shift in power from production
to finance.

From a Varieties of Capitalism perspective, we show how harmonized IASB

accounting standards favour the Anglo-Saxon over the Rhenish model. From the
perspective of capital theory, we demonstrate how the standards institutionalise
new forms of assets which herald an era of intensified economic restructuring.

Our argument is mainly relevant for three literatures: (1) In context of the current
discussion about comparative corporate governance and the varieties of
capitalism.(2) From a more general political economy perspective, accounting also
plays a crucial role within current discussions about the changing nature of
capitalism, in particular about the shift from industrial to finance capitalism or from
corporate liberalism to neo-liberalism. (3) International accounting regulation is one
of the most fascinating cases of private authority in international affairs, given that
the rulings of a private body are being made obligatory for more than 7,000 listed
companies in the EU alone.

CURRENT CHANGES IN THE SUBSTANCE OF ACCOUNTING REGULATION

We argue that the most significant change which International Financial Reporting
Standards (IFRS) bring to accounting is in the role and valuation of assets.This
change presents itself in two forms: Fair value accounting (FVA) and the balance
sheet approach.

asset values are the key quantitative anchors around which capitalism is organized.

Whereas accounting traditionally valued business assets at their historic cost, IFRS
now applies fair value accounting (FVA) techniques to an increasing range of
assets.Set against historic-cost accounting, FVA represents a significant shift in
thinking because it removes the direct link between what a firm paid for an asset
and the value the firm attributes to that asset in its statutory financial statements.

The IASB defines fair vale as ‘. . . the amount for which an asset could be
exchanged or a liability settled between knowledgeable, willing parties in an arm’s
length transaction’.

Fair-values are thus closely related to market-values. However, some caution should
be exercised in equating fair value directly with market value since not all assets are
traded on active markets and so sometimes a model is used to reach a ‘synthetic’
market value

Under historic cost accounting, the estimation is made in the past by the buyer and
seller, and validated by a transaction. Under fair value accounting the estimation is
made today by the market, or by an auditor modelling the market, and is not
necessarily validated by a transaction.

Uncertainty is unavoidable in both types of accounting

The use of FVA techniques for asset valuation is all the more important given that
the IASB also promotes the so-called balance sheet approach, whereby corporate
performance is increasingly judged from the perspective of asset values on the
balance sheet as opposed to cash-flows on the income statement.

As such, assets and liabilities rather than operating income become the reference
point for calculating financial results.

One of the weaknesses of the balance sheet approach is that, when combined with
FVA, it leads to an increased volatility of profits caused not by core business
activities but instead by re-measurements of asset values.

Of the two changes FVA is the more substantial.

The balance sheet approach plays a supporting role to FVA since it increases the
extent to which profits are driven by changes in asset values.

So far, however, the IASB has not issued any explicit rulings on comprehensive
income or the balance sheet approach (FT, 2005b), but rather has incorporated the
concept implicitly into FVA standards which require asset value adjustments to
show up in the profit and loss result.

THE MEANING OF FVA: THEORETICAL PERSPECTIVES

FVA: The Efficiency Perspective

To operate efficiently, capital markets need to predict a firm’s future income streams
based on the resources which it controls.

Rather than giving an accurate picture of the resources that a firm controls, historic-
cost accounts simply tell management’s story about what they have done with
investor’s money, the so-called ‘stewardship’ approach.
To sum-up: Those who question FVA from within the mainstream efficiency
perspective of accounting claim that the paradigm introduces as many arbitrary
judgements into financial statements as it purports to remove from them.

In contrast, those supporting FVA do so on the basis that markets have become
more sophisticated in their ability to process (and price) detailed financial
information. It is argued that shareholders no longer need managers to interpret
economic reality for them; much better to get the raw data and do it themselves.

Where is the Principal? Power to Fund Managers and the Financial Sector

it reduces principal-agent conflict and increases overall efficiency. In this

section we demonstrate why such an analysis is mistaken.

The FVA paradigm reduces the manager’s voice in favour of the market’s voice
[which] takes its power from . . . fair values, which are independent of the manager’s
influence.

In short, FVA shifts power from managers to markets, which benefits shareholders.
In this analysis, shareholders are the principals, managers the agents, and the
market is a mechanism for obtaining the most relevant asset values.

Thus, we replace the term ‘market’ with the term ‘financial analyst’. For clarity we
also replace ‘manager’ with the more precise term ‘enterprise manager’.

Under FVA, financial analysts gain power and traders/fund managers pay more
attention to them; enterprise managers lose power. All three are agents of one kind
or another. Most of the real principals in the financial system—i.e. investors, savers,
pensioners and future pensioners (workers)—are not in the picture.

while investment risk has been disintermediated (i.e. risk is passed on directly to the
principal), control has not.

These standards require that financial assets be listed on a company’s balance

sheet at their fair values (either market value or, where an asset is not actively traded,
a model ofmarket value). Furthermore, any changes in those values are carried
directly to the income statement, therefore impacting the company’s profit or loss
result.

Historical analyses of non-financial corporations in rich-economies show that, on

average, they now make as much as 40% of their net income from financial
transactions compared to just 10% in the 1950s and 1960s.

that the profits of the productive sector become increasingly related to movements
in financial markets (as opposed to product markets). This in turn has led to an
overall transfer of profitability between sectors at the macroeconomic level.
A second characteristic of financialisation, also directly related to FVA, is the
restructuring of corporate activity to meet targets set by the capital markets, i.e. by t
Because the logic of today’s FVA paradigm corresponds precisely with these aims,
FVA’s introduction effectively institutionalises this second facet of financialisation in
the form of accounting standards.he analysts, banks and funds.

In as much as they are a mirror of shareholder value, FVA accounting standards thus
serve to intensify the transformation of corporate strategy from ‘retain and reinvest
to downsize and distribute’

National Differences: FVA and the Varieties of Capitalism

Although the continuing rise of the financial sector has been a phenomenon of all
advanced capitalist societies in recent decades, it affects national economic
systems to varying degrees, and with very different consequences.

two ideal types: Coordinated Market Economies (CMEs) and Liberal Market
Economies (LMEs), which are, respectively, illustrated with the cases of Germany
and the USA

The defining characteristics of the CME (or ‘Rhenish’) model are the consensual (for
the most part) relationship between labour and capital, the supporting role of the
state, and the availability of patient capital provided either by major banks
(Hausbanken) or from internally generated funds

Financial analysts can now exert pressure on enterprise managers to put these
resources to more productive, and often rather short-term, uses

While the move to FVA in both capitalist models is seen to strengthen the position of
shareholders vis-`a-vis managers, in the Rhenish model FVA also impacts a broader
socio-economic arrangement between workers, employers and other so-called
‘stakeholders’ which was built on the basis of more prudent accounting.

The term ‘Mittelstand’ refers to the small- and medium-sized, mostly family owned
companies that form the backbone of German industrial production.

Such companies are typical of the consensual and long-term perspective of the
Rhenish variety of capitalism, based on close consultation with ‘Hausbanken’ and
workers councils.

For ‘Mittelstand’ companies, by far the most controversial standard is IAS 32, which
stipulates how to account for equity capital. The current version of IAS 32, as
revised in 2003, classifies the paid-in capital from members or partners in a
Mittelstand company as a financial liability and not as equity—because the capital is,
in principle at least, repayable.
In addition, IAS 32 demands that this ‘liability’ is accounted for at fair value, which in
this case is the current market value of the company, based on future earning
expectations by the market. The net effect of IAS 32 will not only be to strip
Mittelstand companies of their equity capital but also to substantially increase their
liabilities because the fair value of the company is in most cases much higher than
the value of paid in capital.

In the context of the Basle II agreement this would dramatically raise their borrowing
costs, effectively driving many to close or sell themselves to larger companies.

Changes in accounting practices thus have the very real potential to threaten the
basis of the Rhenish capitalist model since its elements are highly interdependent
and not easily transferred or exchanged.

Capital Pricing, Income Division and Economic Restructuring

Neoclassical economics attempts to explain how a market economy operates in the

following way(1) Economic output is defined as a function of the quantities of input
factors used in production, the latter usually being categorized as capital and
labourEach factor of production is assumed to have a marginal productivity. This
gives rise to the production function.
(2) The invisible hand of the market optimises an entire economy by maximising this
production function subject to the constrained availability of capital and labour as
expressed by their prices (the interest and wage rates), which in turn are determined
by supply and demand in the capital and labour markets.

For its part, accounting is supposed to provide an empirical measure, at the level of
the firm, of the quantity of capital employed in production.

These neoclassical failings leave a problem: If marginal productivity either does not
exist, or at least is impossible to measure, then what is left to explain the different
income streams received by the owners of assets, and their workers?

What has this got to do with FVA? Quite a lot because in the current phase of
capitalism there is an increasing volume of rents which cannot be traced to
recognisable assets.
Before IFRS 3, these rents were capitalized by stock markets in share prices, but
not validated by accounting as assets. The resulting gap between the stock market
value of a company and the accounting value of its assets is not openly referred to
as appropriation but instead labelled goodwill.

IFRS 3’s new form of goodwill accounting is justified by many on the basis that
technological change has created a new intangible economy and that goodwill
represents intangible assets which accounting has not yet managed to measure
separately
Indeed a specially commissioned EU study on intangible assets defines them
broadly as ‘non-physical sources of future economic benefits

Non-productive factors such as monopoly, market knowledge and trade secrets

therefore actually become assets

In accounting terms, the capitalisation of goodwill converts super-normal profits into

a ‘normal’ rate of return on assets, since the firm’s asset base is—at a stroke—
expanded.

Perspective Winner Loser

Mainstream Accounting Shareholders, society Management

at large
Finance versus Production Financial sector Productive sector,
especially enterprise
managers
Varieties of Capitalism Anglo-Saxon Rhenish
Capital Pricing Approach ‘Knowledge Economy’ Industrial capital
(knowledge capital) Waged labour

Overview: Perspectives on Fair Value Accounting

Taken together, each of the three different political economy perspectives that we
have outlined earlier gives a different but complementary interpretation of the shift to
FVA—and they all contrast with the perspective of mainstream accounting (Table 1).

THE TRANSNATIONAL PRIVATE GOVERNANCE OF ACCOUNTING

STANDARDS

Cross-border economic transactions soon made the need for international

harmonisation obvious

the EU decision to make IFRS binding for all publicly listed European firms from
2005 was the first major international standardisation. This decision marks a
significant ‘shift in governance’ (van Kersbergen and van Waarden, 2004) towards
the private and transnational level, although we are still some distance from what
can be termed ‘purely private regulation’.

THE ROLE OF TRANSNATIONAL PRIVATE AUTHORITY

The Institutional Efficiency of Transnational Private Authority

The paradigm is an instrument of increased control of production by finance so one

would logically expect some resistance from productive enterprise managers.

Our focus on the transnational private governance of accounting regulation indicates

three complementary answers to this question, all departing from the market
efficiency argument which is central to mainstream analysis in the academic
disciplines of economics and accounting.

First, managers are very much in favour of transnational, as opposed to national,

regulation of accounting standards. In order to have better access to global capital
markets many enterprise managers anyway have to accept the accounting
regulations of other countries besides their own.
Second, private authority is preferred in this perspective because of its assumed
speed and flexibility, in particular with regard to the accounting treatment of fast-
changing fields of business such as financial instruments and the ‘New Economy’ of
intangible assets.
Lastly, public regulation might also bring in ‘political’ considerations that are not
based on a narrowly conceived efficiency perspective.

Transnational Private Authority and the Rise of the Financial Sector

There are several avenues by which the economic power of this sector translates
directly into influence on the substance and mode of accounting regulation
Firstly, it can simply use its lobbying prowess, both for transferring the task of EU
accountancy regulation to the IASB, and then for the directing the substantive
content of regulation towards the FVA paradigm. Secondly, while the politics of
IASB adoption by the EU still await a more comprehensive study (see also Section
5.3), network analysis of IASB and EFRAG committee membership reveals that
financial sector actors are by far the best connected and most represented in the
standard-setting network.

we view experts as political actors whose preferences set the ‘technical’ agenda
and define the range of possible outcomes in a decision making process.

technical solutions are never purely technical; they always have a political purpose
even if those propagating the solutions are not fully aware of it.

Transnational Private Authority and the Disembedding of

Institutionalized Economies
From the Varieties of Capitalism perspective, the shift in accounting regulation
should be seen as part of the ongoing process of structural change (or adaptation)
of Rhenish capitalism

Transnational Private Authority and the Isolation of Accounting Standard

Setting from Society

by capitalising economic rents as assets, the FVA paradigm could institutionalise

new divisions of income in society, to the disadvantage of labour.
by shifting the regulation of accounting standards away from public deliberation in
parliaments (i.e. away from bodies of law such as the German Handelsgesetzbuch)
to transnational private ‘expert’ bodies, economic discourse becomes yet more
isolated from broader debate.

Overview: Perspectives on Transnational Private Authority and the Rise

of Fair Value Accounting

In the case of accounting standards, an important consequence of transnational

private authority is to privilege a financial perspective on measuring economic
activity, while also restricting discussion of accounting standards to the realm of
technical efficiency.

Perspective Role of transnational private authority

Mainstream Accounting Effificiency advantages of global and private

Finance versus Production
Varieties of Capitalism
Capital Pricing Approach
regulation
Voice to fifinancial actors, via role of experts
Weak representation of nationally
institutionalized
economic interests
Further isolation of accounting/economic
discourse from society

Accounting is not a purely technical matter; accounting numbers provide some of

the key economic anchors around which social relations are structured.As we have
shown, accounting standards cannot be reduced to questions of efficiency since
they set out to quantify and compare things which, by their very nature, are neither
quantifiable nor directly comparable. Because of this accounting standards are
political, regardless of whether they are recognized as such, and play a central role
in shaping the future path of our market-oriented societies.