Developing countries, emerging economies and countries in transition have come to rely on foreign direct investment (FDI) as a source of economic development and modernisation, income growth and employment. More than a nice-to-have, experts say that FDI is an integral part of an open and effective international economic system, a major catalyst to development, and can contribute to higher economic growth, the most potent tool for alleviating poverty in developing countries.
But Foreign Direct Investment is in crisis. Investment growth in emerging markets and developing economies has slowed abruptly since the global financial crisis, declining from 10% per year in 2010 to less than 3.5% in 2016. While there have been signs of revival recently, over the past three years investment growth, both public and private, has been not only well below its double-digit pre-crisis average rate but also below its long-term average.
That slowdown is blamed on numerous factors, not least the knock-on effect of increased global financial market and political uncertainty, particularly in the US and the eurozone. But
as experts ponder the causes and effects of this slump, it could be that accountants hold one of the keys to reversing the trend. The global accounting standard-setter the IFRS Foundation announced a Memorandum of Understanding (MoU) with the World Bank in May. It was aimed at boosting take up of International Financial Reporting Standards across the developing world.
The objective of the new MoU is to provide greater support to developing economies in their use of IFRS, focusing on joint priority areas including the development of training to help build capacity and understanding of IFRS Standards and the IFRS for SMEs Standard, and materials to support their implementation.
Financial information is the lifeblood of capital markets, International Accounting Standards Board (IASB) chairman Hans Hoogervorst told a conference audience in Peru last November. “Having access to financial information that can be trusted is really important to investors – and perhaps especially important if they are geographically far removed from the projects and companies they invest in.”
The global economy means investors want to compare and contrast performance to identify investment opportunities, explains Mark Byatt, director of external affairs at the IFRS Foundation, which oversees the work of the IASB. “Different national accounting requirements complicate the investment process because even core financial performance indicators such as revenue and profit can be calculated in different ways. A single, high-quality set of global accounting standards makes life easier.”
But the practicalities of turning that vision into a reality, given the limitations of the Foundation’s 150 London-based staff, are challenging, Byatt admits. “As the global accounting standard-setter, the IFRS Foundation has extensive expertise in the development of IFRS Standards and how they should be applied, but we are a relatively small organisation with limited resources. The World Bank has the scale, in-country resources and relationships with key stakeholders to take that expertise and use it to develop scalable programmes that help build IFRS capacity across developing and emerging economies.”
This is very much about building expertise, adds Byatt. “IFRS Standards serve the public interest by fostering trust, growth and long-term financial stability in the global economy, while the World Bank is seeking to reduce poverty by helping countries to develop open and transparent financial markets that attract investment. As such, there is a great deal of overlap between our respective missions.
“We have worked with the World Bank for many years, and so it felt like the right time to put together a framework for future collaboration. Our overarching objective is for the organisations to continue to work effectively together.”
STRATEGY WITH TEETH
On paper at least the MoU looks to offer many synergies, but the question remains, does it mark the foundation of a strategy with teeth? An inaugural meeting of a joint co-ordination group comprising members of the World Bank and the IFRS Foundation has taken place, and they plan to meet regularly to help co-ordinate the implementation of the MoU. However, as yet there is little meat on the bones in terms of what the deepening co-operation will mean in practical terms, other than a commitment to supplement train-the-trainer workshops with face-to-face and online courses that can be delivered in a “scaleable and donor-friendly way”.
What’s also true is that encouraging better financial reporting on developing economies has been a long and difficult road. “After the east Asian crisis of late 1990s the international community, led by the IMF and World Bank, made a big push to formulate standards of best practice across a wide domain of banking and finance and establish monitoring procedures of countries’ degrees of compliance with the standards,” explains Robert H Wade, professor of political economy in the Department of International Development of the London School of Economics.
It was left to markets to reward countries that complied more and punish those that complied less, Wade explains. But in practice, financial markets pay more attention to “traditional” macroeconomic indicators like inflation than to compliance with standards of good financial practice, and studies of the link between compliance with standards and the cost of foreign capital have found no significant impact of the former on the later, Wade maintains.
Perhaps not surprisingly Wade is muted in his enthusiasm about the likely positive impact of the latest World Bank/IFRS Foundation collaboration: “At first sight this looks like an entirely worthwhile initiative,” he says. “The question is, what would motivate the government of a developing country to adopt the standards and to enforce them, which requires lots of resources and creating effective institutions or upgrading existing ones?
I presume the World Bank/IMF answer is the more a government complies with the standards, the cheaper will be the cost of foreign borrowing for it and other investors. But the last time this mechanism was tried, it barely worked. Why should we expect a different outcome this time?”
ICAEW’s vision of a world of strong economies forms a cornerstone of a new 10-year strategy, published in May, which recognises its transition to a truly international organisation with an increasingly global student base. At the time ICAEW chief executive Michael Izza pledged the Institute would “work with others to develop strong, accountable and open economies where people can trust data, leaders can make good decisions, public finances are transparent and businesses are accountable”.
Dr Mark Campbell, director, international capacity building at ICAEW, agrees that a pragmatic approach is needed, and bearing in mind the number of companies using IFRS is just a fraction of the total, IFRS should be seen as part of a wider challenge and solution.
Campbell’s extensive experience has shown him that the theory around IFRS adoption often bears little relation to what happens on the ground. “Just because a country says it has adopted IFRS, implementation may be patchy and often that journey hasn’t even begun.”
The trick, Campbell says, is for countries to focus their efforts on a financial reporting framework that takes in the majority of companies. Key goals should be to strengthen public revenues through taxation and to reduce the size and influence of the informal economy.
“As part of ICAEW’s capacity building work, we seek to identify the economic outcomes required and work back from those to identify what should happen. In this way, we see that sustainable foundations for economic growth must include a strong, effective and proportionate financial reporting framework. Focusing on IFRS alone means we may not see the bigger economic picture,” Campbell says.
Veronica Poole, Deloitte’s global IFRS leader and UK national head of accounting and corporate reporting, agrees that wider adoption of IFRS, while a laudable aim, is far from enough in itself to make a real difference. “You need enforcement, education and compliance – auditor regulations and banking systems need to be in place for the economies to benefit. Learning, professional standards and the practical implications of IFRS adoption – that all takes time to build. None of the elements can operate in isolation,” Poole says.
Campbell believes that for IFRS implementation to be effective, it is a much longer journey than people realise – typically five to seven years. “You need to chart a journey that begins with making IFRS appropriate to public interest organisations such as banks, and implementing IFRS so organisations that affect the public interest most are targeted first. The World Bank and other donors are adopting this top-down approach.”
Successful capacity building hinges on practical solutions and co-ordinated interventions, Campbell says. “In developing nations, most businesses are small and what will help most is a consistent, effective and well-implemented financial reporting regime that covers the vast majority of companies. It’s about moving the economy from informal to the formal. This will improve the quality of financial information for everyone, strengthening the climate for investment.”
Byatt was reluctant to be drawn on the challenges of boosting effective IFRS uptake across the developing world, although he did admit that a commitment to using IFRS isn’t enough in itself to improve financial reporting.
“Some smaller countries that have adopted IFRS Standards have a relatively young accounting profession – making it harder for them to apply IFRS Standards as intended. The objective of the MoU is to develop scalable, repeatable programmes that will help to build IFRS expertise, particularly where it relates to the implementation of the new IFRS Standards issued in the last few years,” Byatt says.
Building IFRS capacity is also about tapping into international experience in IFRS and its application in practice, Campbell says. “Good in-country diagnostics help us understand where a country is and if it has the capacity to implement IFRS. A successful IFRS implementation requires decisions on complex disclosure requirements – which are shades of grey, not black or white.”
Poole is confident that meaningful use of IFRS across the developing world will spread, even if the driving force is adversity. “If we are going to solve systemic issues properly we need financial systems in place to facilitate this. This is about finding a structural solution. Besides, we can no longer rely on constant philanthropy.”
ICAEW’S DEVELOPMENT WORK
ICAEW has first-hand experience of the challenges of capacity building projects including some funded by the World Bank. In January 2015 the Institute was selected by the International Federation of Accountants (IFAC) to help strengthen Ghana’s accountancy profession in a state-funded initiative as part of a £5m project from the Department for International Development (DFID).
ICAEW and the Institute of Chartered Accountants Ghana (ICAG) are combining to bring Ghana’s professional accountancy education, training and qualification up to the standard demanded by an expanding economy.
Following the success of that programme, ICAEW was last year appointed by IFAC to work with the accountancy profession and regulators in Kyrgyzstan on a similar project to address recommendations made by the World Bank Centre for Financial Reporting Reform in 2012.
“This project will enable the UAA and the profession’s key stakeholders to sustain positive reform and contribute to continued growth in Kyrgyzstan over the longer term,” said ICAEW chief operating officer, Vernon Soare. ICAEW Foundation will support a number of first year students of the ICAG qualification with bursaries.