In an opinion article, Assistant Professors Jochen Pierk and Ferdinand Elfers of Erasmus School of Economics describe an EU-wide institutional failure behind the Wirecard accounting scandal. According to Pierk and Elfers, the scandal has also turned the spotlight on an apparent failure of the responsible supervisory authorities.
Convenient scapegoat
The German government did not hesitate to terminate its contract with the Financial Reporting Enforcement Panel (FREP) when the scandal came to light. ‘But while the FREP might come as a convenient scapegoat for politicians, it is questionable whether it could – and should – have detected Wirecard’s illicit accounting practices’, Elfers and Pierk write. According to them, the real problem lies not just with Germany, but with the current design of public accounting enforcement in Europe.
Variations in institutional design
In the European Union, accounting enforcement has been institutionalised by the International Financial Reporting Standards (IFRS). While all EU-members have to ensure compliance with these standards, there is still substantial variation in the institutional design of national enforcement activities. Some countries have set up dedicated enforcement agencies. For others, enforcement tasks are carried by the national securities market regulator or the central bank, and then there are also countries who placed that responsibility with individual industry supervisors.
Ambitious ideas
Other than that, national agencies differ a lot, for instance, regarding the number of financial statement reviews, the scope of their enforcement activities, and their legal authority to impose penalties, the writers explain. One aspect that is, however, very common among the European enforcement agencies is their underfunding. ‘The FREP, which was in charge of supervising more than 400 publicly listed firms in Germany, has around 15 employees and a yearly budget of 5.5 million euros. 'It is not technically wrong that the FREP ‘failed’ to uncover Wirecard’s fraudulent accounting. But the idea that a single FREP employee could do what EY’s audit team couldn’t do for years, seems a little ambitious’, Elfers and Pierk write.
Opportunities for regulatory arbitrage
According to Elfers and Pierk, the current system of accounting enforcement in Europe simply isn’t designed to prevent serious fraud cases. European enforcement agencies only focus on the correct application of the accounting rules, and not on the underlying economics. Furthermore, they are understaffed and underfunded. ‘The lack of a stringent European approach to accounting oversight and the co-existence of intransparent local players are an unnecessary source of uncertainty for investors, and likely provides firms with opportunities for regulatory arbitrage.’
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The full article from September 2 2020, can be found here.
