What drives radical shifts in regulatory policy? A common answer to this question is that new policies emerge as a response to the demands of a rapidly changing environment. When existing policies become less relevant, they are replaced with more suitable approaches that address the current issues more effectively. The digital economy, for example, has brought with it a need for policies to address issues of data security, copyright and privacy in addition to the physical aspects of security. Another driver of policy change is the lobbying of policy-makers by powerful external interest groups. Such lobbying is often viewed as interference in the policy process which risks undermining the integrity of the policy-maker, whose policies may be seen as being politically expedient, rather than providing the best technical solution to a legitimate problem. Can these two external drivers of change — environment and lobbying — explain all policy change? Perhaps not.

A recent investigation of a policy shift in financial reporting policy has uncovered a new driver of change, which exists within the policy organisation. The research focuses on the activities of a private-sector financial reporting policy-maker, the International Accounting Standards Board (IASB), which introduced a controversial new form of accounting known as “fair value accounting”, or “FVA”. FVA required the incorporation of a number of accounting items into the financial accounts which had previously not been included, and the valuation of those items using market-based rather than the cost-based measures. The introduction of FVA significantly affected the balance sheets of many large companies, forcing them to include in their financial statements previously unrecognised items such as the significant obligations for their employees’.

These new accounting rules may at first glance seem arcane and their relevance may not be immediately obvious, but in fact they were significant and far-reaching. The IASB sets the accounting rules (the international financial reporting standards, or IFRS) for all listed companies across Europe and for many non-European countries too (a total of 120 had adopted IFRS by 2010). Some critics have claimed that the introduction of FVA increased asset price volatility, which exacerbated the financial crisis of 2007-9. Others have claimed that bringing pension obligations onto the balance sheet has had appalling socio-economic consequences and has led to the demise of many defined-benefit pension schemes, to the detriment of employees. The IASB has rebutted these criticisms of FVA, however, arguing that FVA simply reflects existing socio-economic problems rather than causing them.

A number of commentators did not agree with the IASB’s argument that it was merely the messenger of potentially bad news, accusing it of producing standards that were technically deficient. As a result, the policy-maker found itself having to defend the legitimacy of its decision-making process. To do this, it argued that its ‘due process’ guaranteed the quality and technical neutrality of its standards and mitigated against the possibility of conflicts of interest or political bias. In addition to the monitoring function of its trustees, the IASB’s monthly board meetings were open to observers and the acceptance or publication of exposure drafts or standards was determined by a vote by board members.

Was the IASB justified in relying on its due process as a means of ensuring good decision-making? A closer examination of the deliberation processes at the time the IASB was developing FVA standards calls into question the effectiveness of its procedures for decision-making. The IASB was roughly split into two groups: a minority group in favour of FVA (who would later be labelled “space cadets” because of their cult-like adherence to the ideology of FVA) and a majority group that was not convinced by FVA (known as “dinosaurs”). It is noteworthy that the majority group were fragmented in their views on accounting, whereas the FVA group were consistent in their advocacy of FVA and introduced it as a possible technical approach whenever possible. One staff member said that the attitude of the FVA group could be summarised by the phrase: “Whatever the question, the answer is fair value!”

The FVA advocates were, for a period of time, able to influence agenda-setting and shape the boundaries of ‘appropriate’ accounting rules for the IASB. This is surprising given that they were a minority group, comprising just five of the fourteen board members. Given the small size of the FVA group, how was this influence possible? An analysis of audio recordings of IASB board meetings demonstrates how they were able to dominate board proceedings and thereby shape global financial reporting policy.

It was found that the individuals making up the FVA group were discursively dominant in a number of ways. They were assertive and strong orators, they made more frequent contributions to the board discussion than the other board members and they spoke for longer overall. They employed rhetorical skills, for example the use of powerful language to signal competence and combined this with the use of appropriate vernacular and of humour, thereby also generating a sense of bonhomie and community around the board table.

They also used non-lexical devices to command the boardroom, with some individuals thumping the table on occasion to attract attention and varying the speed and volume of their speech for purposes of emphasis. They often interrupted opponents and jumped into the discussion without waiting for their turn. English language skills were also important. The members of the FVA group were all native English speakers, from the US, Australia and the UK, whereas some of the other board members struggled to express their views clearly and stumbled over simple sentences because of the language barriers they faced initially on joining the board. The pro-FVA group exploited the linguistic difficulties of these individuals, sometimes teasing them in a way which straddled a line between banter and bullying. Most importantly, though, the members of the FVA group supported each other in arguing consistently for FVA. They primarily addressed comments and questions to each other, thereby effectively excluding other board members from exchanges and establishing themselves as the core group of contributors to technical deliberations.

This is not to say that these internal deliberative processes at the IASB were the only driver of policy, of course. External factors were certainly also important. In particular, the prevailing economic conditions and the lobbying activities of stakeholders were influential on standard setting. Yet, the minority group influenced accounting standards in spite of all the procedural controls, such as the requirement for standards to be passed by a board vote and for board meetings to be open to observers. The insight that powerful internal groups can circumvent procedural constraints does more than identify the role of board level deliberation in tilting the organisation towards a new path of policy-making; it also throws light on the more general risks in relying too heavily on due process as a guarantee for optimal decision-making.

These findings relate to just one policy-making organisation — the IASB — but it seems reasonable to assume that the hijacking of group deliberation by powerful sub-groups may occur in other policy-making environments with similar effects. The study highlights how the informal dynamics of discursive deliberation within an organisation can significantly influence policy-making. Yet such ‘internal lobbying’ often goes undetected, hidden from public view by a smokescreen of formal rules and procedures. What lesson might we draw from this? Perhaps we should acknowledge that too much focus on the formal principles of organisational governance can cause us to overlook the importance of informal practices and the potentially disproportionate influence of tough-talking and charismatic individuals within a policy-making organisation on policy direction.

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Notes:

  • The post gives the views of its authors, not the position of LSE Business Review or the London School of Economics.
  • Featured image by cafuego, under a CC-BY-SA-2.0 licence
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Julia Morley is a lecturer at LSE’s department of accounting. Her work focuses on the emergence of norms in performance measurement, such as ‘fair value accounting’ in corporate financial reporting and ‘social impact measurement’ in the social sector. In investigating these social phenomena, she draws on work from sociology, social psychology and philosophy. Her research is primarily qualitative, using interview and documentary evidence but she also does social network and statistical analysis. This methodological pluralism enables her to work effectively at the boundaries of disciplines and to address a varied audience, whether examining social psychology in accounting standard setting or the role of social impact bonds in shifting the discourse in the social sector. Dr. Morley has a PhD in accounting from LSE.