Private Standards, Public Governance: A New Look at the Financial Accounting Standards Board

William Bratton, Institute for Law and Economics, University of Pennsylvania Law School; European Corporate Governance Institute (ECGI)

11/10/2008
(Original Publish Date: 3/1/2007)

The Financial Accounting Standards Board (the "FASB") pre-sents a puzzle: How has this private standard setter managed simultane-ously (1) to remain independent, (2) to achieve institutional stability and legitimacy, and (3) to operate in a politicized context in the teeth of op-position from its own constituents? This Article looks to governance de-sign to account for this institutional success. The FASB's founders made a strategic choice to create a regulatory agency that sought independence rather than political responsiveness. The FASB also set out a coherent theory of accounting, the "Conceptual Framework, to contain and direct its decisions. The Conceptual Framework contributed to the FASB's insti-tutional success by disavowing a neutral posture, explicitly privileging the interests of the users of nancial reports (investors and market interme-diaries) over the interests of the reports preparers (large audit firms and their managers). Nonetheless, the FASB remains vulnerable to the allega-tion that its complex, rules-based standards serve the audit firms interest in lowering the risk of liability while sacrificing the users interest in fairly stated financials. This Article endorses the rejoinder position. What some see as capture also can be characterized as responsiveness, and the FASB serves a public interest in taking seriously the accounting firms need for auditable standards. Although detailed rules can distort the overall story told by a report's bottom line, they also make it easier to see what preparers are doing, easing verification and making audit fail-ures and scandals less likely. The FASB emerges as a generator of subop-timal but institutionally defensible standards.