Abstract:

Addresses the issue of how behavioral accountants can contribute to the

establishment of standards in financial accounting policy research. Discussion of
comparative advantages provided by behavioral accounting research in standard
formation; Focus on how communication can be improved between behavioral
researchers and the US Financial Accounting Standards Board (FASB).

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3286

ISSN:

1050-4753

Accession Number:

9510180844

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Business Source Premier

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The Role of Behavioral Accounting Research in

Contents

1. COMPARATIVE ADVANTAGES OF BEHAVIORAL ACCOUNTANTS

2. BEHAVIORAL ACCOUNTING RESEARCH AND THE STANDARD SETTING

PROCESS

3. EXAMPLES OF EX ANTE FINANCIAL RESEARCH

4. CONCERNS ABOUT AND OBSTACLES TO EX ANTE BEHAVIORAL ACCOUNTING

RESEARCH

5. Questions about the FASB's Research Preferences

 6. Potential Obstacles to Ex Ante Financial Research

7. Implications of Ex Ante Behavioral Research for the FASB

8. COMMUNICATION BETWEEN THE FASB AND THE ACADEMIC COMMUNITY

9. REFERENCES

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This essay addresses the issue of how behavioral accountants can contribute to ex
ante financial accounting policy research. In the essay, I discuss the comparative
advantages of behavioral accounting researchers, specific ways in which behavioral
accounting research can contribute to financial accounting standard setting,
concerns about and potential obstacles to this research, and ways to improve
communication between behavioral researchers and the Financial Accounting
Standards Board (FASB). Although I have attempted to be broad in my definition of
behavioral research, my comments are naturally colored by my training and own
research, which examines individuals judgments and decisions using a cognitive
psychology framework and experimental methodology.

COMPARATIVE ADVANTAGES OF BEHAVIORAL ACCOUNTANTS

Compared to academic accountants pursuing other types of research (e.g., capital

markets, analytical research), behavioral accountants possess two types of
knowledge that are advantageous in pursuing ex ante financial accounting policy
research. First, behavioral accountants typically have substantial knowledge of the
psychology and/or sociology literature, as opposed to other accounting researchers
who are most familiar with economic theory. The psychology and sociology
literature provides insight into how people, individually or in combination, actually
use and are affected by accounting information, rather than how people should use
or be affected by such information if they behave according to "rational man"
economic theories.[1] These literatures provide a framework for providing
"descriptive explanations of the world as it is," as suggested by Beresford (1994).

Second, behavioral researchers are trained in research methods, such as

experiments, surveys, and field tests, which are often the best, if not the only,
methods available for ex ante research. For example, it often is difficult to use
archival data to evaluate the effect of several alternatives for recognizing or
disclosing a particular item since this data will have been generated under only one
reporting regime.[2] The experimental method allows for creation of "what if"
scenarios in which the effects of alternative accounting methods on decisions can
be examined. Behavioral accountants' expertise in experimental methodology also
can be helpful in designing field tests for particular accounting standards.

The experimental methodology also provides researchers with a mechanism to

understand the judgments and decision processes underlying a particular
documented outcome. While the capital markets literature can document whether
the stock market reacts to a particular piece of accounting information, the process
underlying the reaction remains somewhat of a "black box." Individual laboratory
experiments coupled with experimental markets can provide insight into both
individual decisions and how these decisions are aggregated to arrive at market
prices.[3]

BEHAVIORAL ACCOUNTING RESEARCH AND THE STANDARD SETTING PROCESS

In his paper prepared for the ABO conference (Beresford 1994), Dennis Beresford
describes the standard setting process as involving three primary steps: (1) defining
and framing issues for consideration by the FASB, (2) fashioning alternative
methods of recognizing or disclosing information, and (3) choosing among the
alternatives and implementing one alternative. My understanding is that, in this
process, the FASB considers both the coherence of alternatives with its conceptual
framework and practical implications of alternatives, such as the effect of each
alternative on the decisions and behavior of the FASB's many constituent groups.

I believe that behavioral accounting research can contribute to all three phases of
the standard setting process; however, in all phases, it is better equipped to provide
insight on consequences of alternatives to individuals' decisions and behavior than
on the coherence of alternatives with the conceptual framework. This is not to say
that behavioral researchers do not have valuable opinions on the coherence of
alternatives to the conceptual framework; rather this statement reflects the belief
that behavioral research is designed to answer descriptive rather than normative
questions.[4]

I see two potential avenues for behavioral accounting researchers to play a role in
the standard setting process. First, in some instances, the psychology and sociology
literatures may be sufficiently relevant to provide direct insights for the three
standard-setting steps described above. Academic accountants potentially could
extract and synthesize relevant psychological and/or sociological literature to form
opinions about the costs and benefits to users of existing standards and proposed
alternatives. I put forth this idea with some trepidation since there are numerous
reasons why results in the psychology or sociology literature may not apply to
different contexts, such as accounting settings (see Abdel-khalik 1994) for further
discussion of this issue). My personal preference is that psychological and
sociological theory be used as the basis for hypotheses about the consequences of
reporting/disclosure alternatives, which then can be tested using experimental or
other research methods. As noted in my review of judgment and decision-making
research in financial accounting (Maines 1995), some early ex ante research on
financial accounting policy used the experimental method to examine the effects of
accounting alternatives without the guidance of any theory. While this approach
may be necessary if no applicable theory exists, the use of psychological or
sociological theory to guide research enhances the ability to understand the
research's results. In turn, this improves academic accountants' ability to provide
the FASB with useful insights.

Psychological and sociological research may be most productively used to guide

behavioral accounting research on general issues that underlie many different
accounting standards, rather than focusing on issues relevant to only one standard.
Some examples of these general issues include recognition versus disclosure of
financial information, the effect of measurement alternatives on earnings volatility,
and the precision, reliability, and verifiability of measurement alternatives. I discuss
the first two examples further in the following section.

EXAMPLES OF EX ANTE FINANCIAL RESEARCH

In this section, I describe two general topics, recognition versus disclosure of

financial information and earnings volatility, that either have been or could be
addressed by behavioral research. These two examples focus on judgments and
decisions made by external users of accounting information, such as investors and
creditors. Such decisions also have implications for judgments and decisions of
preparers of financial information if perceptions of how investors or creditors use
accounting information affect either the manner in which financial statements are
prepared or decisions that affect the cash flows of the corporation.

Recognition versus disclosure of information underlies many topics facing the FASB.
For example, this issue is specifically mentioned in the discussion of unconsolidated
entitles in Beresford (1994). A substantial body of psychological research on
information presentation and "flaming" clearly documents that the manner in which
information is presented affects judgments and decisions (Tversky and Kahneman
1981). Behavioral accounting research has examined recognition versus disclosure
issues with respect to lease and pension liabilities (Wilkins and Zimmer 1983;
Harper et al. 1987; Sami and Schwartz 1992). Although the results of these studies
are mixed, evidence seems to indicate that recognition may result in more
conservative judgments by external users than disclosure. Given the mixed results,
further investigation of this issue seems warranted.

In Victor Brown's commentary on the economic and social consequences of

accounting standards (Brown 1990), he alludes to preparers' beliefs that the
volatility of earnings has an effect on investors' decisions.[5] These arguments
suggest that an accounting standard which increases the volatility of earnings
without having an effect on cash flows is undesirable from a preparer's viewpoint
due to its negative effects on investment decisions. Barth et al. (1993) find
evidence which can be interpreted as being consistent with this belief. Using stock
price data, they find that the market assigns a premium to firms with consistent
patterns of increasing earning for five years. I suggest that experimental research
could supplement and provide additional insight into the results in Barth et al.
(1993). In capital markets research, conclusions are often conditional due to the
inability to perfectly control for concomitant factors which may be the underlying
cause of the results. In comparison, the experimental methodology allows for
control or manipulation of these factors. In the case of earnings volatility, individual
or laboratory market experiments could separately manipulate the volatility of
earnings and cash flows to examine whether investors react to the volatility of
earnings independent of the volatility of underlying cash flows. This research could
provide insight on the validity of preparers' beliefs that would useful in many
standard setting cases.

CONCERNS ABOUT AND OBSTACLES TO EX ANTE BEHAVIORAL ACCOUNTING

RESEARCH

In this section, I discuss some questions and concerns about undertaking ex ante
financial policy research and the implications of such research for the FASB in its
policy setting process. Some of the issues raised are simply questions about the
direction in which the FASB would like the research to proceed, while others focus
on potential problems to undertaking ex ante behavioral research and its
implications for the standard setting process.

Questions about the FASB's Research Preferences

In this section, I pose several general questions about the FASB's opinion regarding
certain types of research. In particular, I have chosen issues that ex ante behavioral
research is capable of addressing, but which have fallen out of favor in the research
world for reasons discussed below. If the FASB is interested in such issues, it would
be helpful for this interest to be communicated to the academic community.

My first question relates to the role of accounting policy in allocating wealth in

society. As noted by Griffen (1987), accounting information affects the allocation of
society's wealth in two ways. First, it directs resources to productive uses, often
within a market setting, and second, it allocates current wealth among individuals in
society. Many academic accountants have argued that accounting research should
be concerned with only the first allocation since conclusions about the second
allocation require assumptions about preferences about wealth distribution which
are outside the scope of accounting research. These researchers have argued that
any "errors" in judgments of specific individuals due to accounting standards are
unimportant if the market price is unaffected by these errors.[6] Much of the early
behavioral research on financial policy was dismissed on these grounds.

If distributional wealth effects are important to the policy-setting process (and it

seems that they may be given the diverse constituents of the FASB), this needs to
be communicated to the academic community to increase the value of research on
specific groups of individuals. Behavioral research in this area need not make direct
normative conclusions about the desirability of wealth distributions, but could
provide descriptive facts about the impact of alternatives on different groups which
can be used as an input to the standard-setting process.

A related question has to do with the effects of public versus private information.
Many accounting standards increase disclosure requirements. In some cases, the
disclosure represents information that was privately available to some individuals
(e.g., analysts who received information from corporate management) but wasn't
easily available to the public as a whole. Since the information was available to
some individuals, it could have had an effect on market price. There has been much
analytical accounting research on public versus private information and some
experimental markets research on this issue. Most of the experimental research
focuses on the effect of private information on market prices. Although this research
has provided many insights, I believe there are many interesting issues still
remaining. In addition, to my knowledge, there has been little research on the
distributional wealth effects of public versus private information.

A final question in this area deals with transition versus equilibrium effects.
Typically, capital markets research has focused on ex post equilibrium results, e.g.,
the effects of a standard after it has been in place for a while and individuals have
had an opportunity to understand it. Criticisms were levied against some early
behavioral research because it only examined how "naive" subjects who were
unfamiliar with new standards made judgments and decisions, rather than how
individuals who understand the standard would make judgments and decisions.
Given that the FASB appears to take consequences of new standards into account in
their transition rules (Brown 1990), I think there may be an opportunity for research
that examines how "naive" individuals use new standards and the costs involved in
moving to full understanding of the new information.

Potential Obstacles to Ex Ante Financial Research

Behavioral researchers have consistently faced difficulty in obtaining appropriate

subjects for ex ante financial research. There are two ways the FASB can help in this
area. First, if the FASB has preferences about the types of subjects (e.g., small
investors, financial analysts, preparers) to be used in such research, communicating
these preferences would be helpful to researchers. A related question is how to
convince subjects, once identified, to participate in experiments. Any help on the
part of the FASB in obtaining subjects would be greatly appreciated by the
academic community.

In a similar vein, once subjects are obtained, questions arise concerning the specific
tasks, decisions, etc. to use in an experiment. Comparison of results from different
studies is hampered when different decisions, tasks, etc. are used across studies
(this may partially explain the mixed results mentioned above for the recognition
versus disclosure issue). I believe that at least some of the confusion stems from
the fact that there is little descriptive work on the judgment and decision-making
processes of many of the FASB's constituent groups, including small investors,
professional analysts and preparers. Descriptive studies are needed to understand
better what judgments and decisions these individuals make and the processes
involved. This descriptive work then would guide the design of experiments.[7]

Implications of Ex Ante Behavioral Research for the FASB

I sympathize with Dennis Beresford's comments (Beresford 1994) on the difficulty of

drawing conclusions or inferences from academic research. It may be of some
comfort that accountants are not alone in this position; the conflicting results of
economic, social, and medical research also hamper decisive policy actions. I
believe there are several underlying causes, two of which I will discuss.

First, as noted above, behavioral research often has produced conflicting results.
These conflicts are caused in part by the use of different subjects, different
experimental designs, and different tasks. Resolution of the problems noted above
relating to appropriate subjects, tasks, etc. hopefully will reduce the number of
conflicting results in the future. However, there still will be heterogeneity in the
underlying quality of studies, particularly if the FASB relies on working papers which
have not been through a journal's review process. As noted by Katherine Schipper
(1994b) in her comments on Beresford (1994), this heterogeneity requires some
intuitive knowledge on the part of FASB members of threats to both internal and
external validity in research studies. The FASB could also consider getting input
from academic accountants on the quality of a study before relying on the study's
results in the standard setting process.

Beresford (1994) also notes that academics often seem reluctant to draw
conclusions about the policy implications of their research. In her comments on
Beresford (1994), Schipper suggests that "accountants are reluctant to draw
standard-setting conclusions in their research papers . . . because they believe
drawing such conclusions is more properly left to those who can apply the
normative criteria." I agree with this statement; however, if the FASB specifically
communicates information about their normative criteria, accounting researchers
will be better able to discern the types of descriptive research that are relevant to
the FASB. As indicated previously, behavioral researchers need not draw normative
conclusions from their research, but they could provide the FASB with descriptive
"facts" that would play a role in making normative conclusions.

COMMUNICATION BETWEEN THE FASB AND THE ACADEMIC COMMUNITY

I applaud the steps taken by the FASB and other groups in recent years to improve
communication with academics. I believe panel discussions and speeches at various
academic conferences are an excellent method for general communication of the
FASB's research interests to academics. In addition, I think small seminars would be
a good mechanism for focussing on specific issues.

With respect to written communication, I would be very interested in seeing the

annual FASB agenda questionnaire completed by FASAC members. However, I think
the results of the questionnaire in and of itself are insufficient. I highly recommend
publication of additional articles which discuss specific research issues related to
"hot issues," such as the article by L. Todd Johnson on environmental reporting
(Johnson 1993). One suggestion for these articles is that they be co-authored by a
member of the FASB's staff and an academic accountant. I think such collaboration
would increase the understanding of what issues are relevant and what issues are
feasibly addressed by ex ante research.

1. This statement is not meant to imply that economic theory is unable to

provide insights into individuals' and groups' use of accounting information.
To the contrary, I believe that economic theory-is essential to a full
understanding of this issue and would like to see more behavioral research
incorporate economic theory with psychological and sociological theory.

2. However, see Schipper (1994a} for a discussion of how ex post research

using archival data can have implications for future topics to be considered
by the FASB.

3. See Camerer et al. (1989) for an example of this type of research.

4. Academic accountants' opinions about the coherence of alternatives to the

conceptual framework are more likely to emanate from their roles as
teachers rather than researchers. In trying to help students not lose sight of
the forest (i.e., the conceptual framework) for the trees (i.e., the individual
standards), professors must think about the coherence of individual
standards both with the conceptual framework and with each other. Thus,
some of the conceptual thinking and writing discussed in Beresford (1994) is
likely to be stimulated by educational issues and may find publication outlets
in journals such as Issues in Accounting Education.

5. See Abdel-khalik { 1994) for a discussion of how functional fixation leads to

concerns about earnings volatility.

6. Recent research in experimental economics provides evidence that biases in

judgment aren't completely eliminated by the market. See Camerer et al.
(1989) and Ganguly et al. (1994) for examples of this research.

7. Information gathered about investors by the AICPA committee chaired by Ed

Jenkins may provide much needed insight into investors' judgments and
decision processes