Convergence with global standards will further enhance country's image

China's economic development over the last three decades is widely viewed as the largest socio-economic expansion in the history of human civilization. This phenomenal growth would not have been possible and sustainable unless it was accompanied by concurrent developments of supporting institutional infrastructure. Accounting provides important foundations for well-functioning capital markets, effective corporate governance, and resolving conflicts of interest among various stakeholders in the economy.

A key success factor for China's development is the Chinese government's continuing effort to further develop, reform and improve the country's accounting standards and practices. Understanding the past development of accounting in China is useful for us to better predict the future of economic development in China and other transitional economies.

Over the last three decades, the Chinese government has restructured or privatized State-owned enterprises as joint stock companies and successfully attracted foreign direct investment. During this period, the demand for external finance has dramatically risen, which in turn spurred the Chinese government to develop well-functioning stock markets.

In this process, China has undergone fundamental changes in its accounting system. In old days of the planned economy, accounting in China primarily served the central government. The transition from a centrally controlled to a market-oriented economy created the demand for credible accounting information from various stakeholders, including investors, creditors and financial analysts. As these capital market participants have different information needs, China's regulatory authorities have successfully made various accounting and auditing reforms in response to rapidly increasing demands for reliable and credible accounting information.

Overall, China has made significant progress in improving accounting practices and the accounting profession, which provides the Chinese economy with crucially important institutional infrastructure. For example, in preparation of the entry into the World Trade Organization, the Chinese government realized the necessity of accepting international accounting practices.

In response, the Ministry of Finance took a significant step forward for the integration of capital markets and accounting standards by announcing new accounting standards in 2006. The new standards, which converge substantially to the International Financial Reporting Standards (IFRS), contributed much to improving the comparability, reliability and credibility of accounting disclosures in China.

It has been argued that IFRS-based accounting standards can better reflect the underlying economic transactions conducted by business enterprises. Unlike traditional Chinese accounting standards which adhere to the historical cost principle, IFRS is considered fair-value-oriented, and thus helps accounting reports better reflect the underlying economic performance.

Although it takes time, effort and resources for corporate managers to adapt to the new accounting standards, the adoption of IFRS that is now widely accepted in the global market would benefit China's economic development in the long run, for example, by allowing enterprises to obtain external finance from outside (particularly foreign) capital suppliers at a lower cost. This benefit accrues largely to those Chinese firms who have cross-listed or seek to cross-list their shares on overseas stock exchanges.

The author is chair professor and head of accountancy, City University of Hong Kong.