Sunday, November 17, 2013

European Commission Report Says Transform EFRAG to Have More Say in IFRS Standard Setting

The European Commission has issued a report offering suggestions on how the E.U. could have a more active role in setting international accounting standards in a world where more and more non-E.U. countries are adopting IFRS and the IASB acknowledges the major of influence of FASB positions  even though the United States has no intention of adopting IFRS in the foreseeable future. The report, prepared by Phillpe Maystadt at the behest of Commissioner for the Internal Market Michel Barnier, centers on a transformed European Financial Reporting Advisory Group (EFRAG) as the vehicle for enhancing E.U. influence on international accounting standard setting.

A former Belgian Finance Minister and President of the European Investment Bank, Mr. Maystadt was named a Special Adviser to Commissioner Barnier with the role of reinforcing the E.U.’s contribution to IFRS.

The report concludes that EFRAG is currently an imperfect vehicle for the job because it is a technical body composed of experts mainly from the private sector, with no mandate from the Member States. While ideally EFRAG should be Europe’s voice in the accounting debate, noted the report, it is a technical committee with views that do not always take appropriate account of broader policy perspectives, such as market stability and shadow banking. In addition, the influence of EFRAG is weakened by tense relations with the national standards setters of the largest Member States, which wish to gain more
influence in the debates.

The report offers three options: 1) transform EFRAG; 2) transfer EFRAG’s duties to the European Securities and Markets Authority (ESMA); or 3) replace EFRAG with an agency of the E.U. Noting the  opposition to Option 2 and the budgetary constraints working against Option 3, the Maystadt report recommends the adoption of Option 1.

Option 1: Transform EFRAG. The transformation of EFRAG would aim at reinforcing its structure and maintaining, at the same time, its mixed composition that covers both public and private interests at the European level. The new structure would fulfill its current technical role, but would also be able to carry out a strategic analysis of the economic impact of the accounting standards under scrutiny, relying on adequate conceptual and technical means.

The new structure would allow EFRAG to provide the IASB and the Commission with analyses on both technical and economic considerations. Under this first option, EFRAG would remain a private organization and the Commission, as a guardian of the European public interest, would still be responsible for making decisions on the strategic and political issues involved in the accounting debate, under the control of the Council of the European Union and of the Parliament.

Option 2: Fold EFRAG into ESMA. The interest of ESMA is to ensure that the IASB produces standards which are sufficiently clear to allow for the consistent application of IFRS but also to protect markets. ESMA has solid expertise in the field of implementation and the interpretation of accounting standards at the European level. As part of its duty to coordinate at the E.U. level the enforcement activities performed by national regulators on the consistent application of IFRS, ESMA identifies cases where standards have been implemented in diverse ways and, if necessary, submits them to the interpretations committee of the IASB.

The report said that this would present the possibility to integrating EFRAG into ESMA. Mr. Maystadt emphasized the advantages of this option, while also recognizing the strong opposition to it. The option would merge two European organizations, EFRAG and ESMA, active in the field of IFRS and allow for the rationalization of human and financial resources, as well as the integration of the endorsement and enforcement processes, thus making the overall process of IFRS development more coherent.

It would also endow the European Union with a structure more similar to the SEC. Moreover, the role of spokesperson for the European Union and the influence over the strategic guidelines in the field of international accounting standards would no longer belong to a private entity.

However, this option has run into massive opposition from stakeholders. They claim that ESMA has a restrictive view on accounting standards and considers IFRS only from the perspective of informing and protecting investors, without taking into consideration macro-economic impacts, prudential aspects and the concerns of preparers of financial statements. In addition, certain Member States are reluctant to give more power to ESMA.

Noting that the development of standards and enforcement should not be mixed, some people fear that ESMA would grow into a stock market watchdog similar to the SEC. Further, sentiment has been expressed that the IFRS standards are based on principles (unlike US GAAP), and that therefore the regulatory influence should remain moderate in order to maintain this characteristic and to avoid IFRS becoming more rules-based.

For all if these various reasons, the report concludes that Option 2 cannot be adopted. But Mr. Maystadt still wants ESMA to have an enhanced role in the European accounting standard setting  process. For this reason, in Option 1, the report recommends that ESMA propose a member for the Board of the new and transformed EFRAG. ESMA could also share with the Commission the role of observer at the International Financial Reporting Standards Interpretations Committee.

Option 3: Replace EFRAG with a public agency. The major advantage of this option is the fact that it would no longer be necessary to entrust the roles of advisor to the Commission and of spokesperson in relations with the IASB to a private entity (EFRAG). This would clearly show that European public interest must prevail in these matters.

However, this option is unrealistic in the current budgetary context. In particular, the scope of this agency would seem to be too limited to justify the creation of such a structure, especially because it would inevitably generate costs, not only for salaries, but also for bigger pensions.

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