International Finance and Accounting Handbook, 3rd Edition / Edition 3

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Overview

The International Accounting and Finance Handbook is an excellent reference for assisting those with interests or responsibilities concerning the international dimensions of accounting, reporting, and control and finance. It provides the tools for managers who need to come to grip with the differences in accounting principles, financial disclosure and auditing practices in the worldwide finance and accounting arena.
* Provides an overview of international accounting and finance issues
* Contributors are from Big-5 firms, top legal and finance firms, and well-known academics
* Author is a leading academic expert in international accounting and finance with a great deal of practical consulting experience
* Shows important trends in international finance and accounting
* Provides practical examples and case studies

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Product Details

  • ISBN-13: 9780471229216
  • Publisher: Wiley
  • Publication date: 7/25/2003
  • Edition description: REV
  • Edition number: 3
  • Pages: 888
  • Product dimensions: 7.22 (w) x 10.24 (h) x 1.55 (d)

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International Finance and Accounting Handbook



John Wiley & Sons



Copyright © 2003

Frederick D. S. Choi
All right reserved.



ISBN: 0-471-22921-0



Chapter One


INTEGRATION OF WORLD
FINANCIAL MARKETS:
PAST, PRESENT, AND FUTURE


Roy C. Smith

New York University

1.1 INTRODUCTION. Financial people know in their bones that their profession
goes back a long way. Its frequent association with "the world's oldest profession"
may simply be because it is almost as old. After all, the essential technology of finance
is simple, requiring little more than arithmetic and minimal literacy, and the
environment in which it applies is universal-that is, any situation that involves
money, property, or credit, all of which are commodities that have been in demand
since humankind's earliest days.

These financial commodities have been put to use to facilitate trade, commerce,
and investment and to accommodate the accumulation, preservation, and distribution
of wealth by states, corporations, and individuals. Financial transactions can occur in
an almost infinite variety, yet they always require the services of banks, whether acting
as principal or as agent, and financial markets in which they can operate. Banks
have predominantly been local institutions throughout their history, but many have
sought international expansion to follow clients abroad or tooffer services not available
in other countries.

Banks have a long history: a history rich in product diversity, international scope,
and continuous change and adaptation. Generally, change has been required to adjust
to shifting economic and regulatory conditions, which have on many occasions been
drastic. On such occasions banks have collapsed, only to be replaced by others eager
to try their hand in this traditionally dangerous but profitable business. New competitors
have continually appeared on the scene, especially during periods of rapid
economic growth, opportunity, and comparatively light governmental interference.
Competitive changes have forced adaptations, too, and in general have improved the
level and efficiency of services offered to clients, thereby increasing transactional
volume. The one constant in the long history of banking is, perhaps, the sight of new
stars rising and old ones setting. Some of the older ones have been able to transform
themselves into players capable of competing with the newly powerful houses, but
many have not. Thus, the banking industry has much natural similarity to continuous
economic restructuring in general.

It is doubtful, however, that there has ever been a time in the long history of banking
that the pace of restructuring has been greater than the present. Banking and securities
markets during the 1980s and 1990s in particular have been affected by a convergence
of several exceptionally powerful forces-deregulation and re-regulation,
disintermediation, the introduction of new technology and product innovation, crossborder
market integration, and greatly increased competition and consolidation-all
of which have occurred in a spiraling expansion of demand for financial services
across the globe. Bankers today live in interesting-if exhausting and hazardous-times.
In this chapter we will have a look at how we got to where we are today, at the
characteristics of the wholesale financial services markets in the early twenty-first
century, and some of the unresolved issues that will affect the industry's future.


1.2 ROOTS OF MODERN BANKING. Our modern economic and financial heritage
begins with the coming of democratic capitalism, around the time of Adam Smith
(1776). Under this system, the state does not intervene in economic affairs unnecessarily,
removes barriers to competition and subsidies to favored persons to allow
competition to develop freely, and, in general, does not prevent or discourage anyone
willing to work hard enough-and who also has access to capital-from becoming a
capitalist.

A hundred years after Adam Smith, England was at the peak of its power. Politically,
it ruled 25% of the Earth's surface and population. The British economy was
by far the strongest and most developed in the world. Its traditional competitors were
still partly asleep. France was still sorting itself out after a century of political chaos
and a war with Prussia that had gone wrong. Germany was just starting to come together
politically, but still had a way to go to catch up with the British in industrial
terms. The rest of Europe was not all that important economically. There was a potentially
serious problem, however, from reckless and often irresponsible competition
from America that fancied itself as a rising economic power. Otherwise, the horizon
was comparatively free of competitors. British industry and finance were very secure
in their respective positions of world leadership in the 1870s.

English financial markets had made it all possible according to Walter Bagehot,
the editor at the time of The Economist, who published a small book in 1873 titled
Lombard Street, which described these markets and what made them tick. England's
economic glory, he suggested, was based on the supply and accessibility of capital.
After all, he pointed out, what would have been the good of inventing a railroad back
in Elizabethan times if there was no way to raise the capital to build it? In poor countries
there were no financial resources anyway, and in most European countries
money stuck to the aristocrats and the landowners and was unavailable to the market.
But in England, Bagehot boasted, there was a place in the City of London-called
Lombard Street-where "in all but the rarest of times, money can be always obtained
upon good security, or upon decent prospects of probable gain." Such a market,
Bagehot continued, was a "luxury which no country has ever enjoyed with even
comparable equality before."

However, the real power in the market, Bagehot went on to suggest, is its ability
to offer the benefits of leverage to those working their way up in the system, whose
goal is to displace those at the top. "In every district," Bagehot explained, "small
traders have arisen who discount their bills largely, and with the capital so borrowed,
harass and press upon, if they do not eradicate, the old capitalist." The new trader has
"obviously an immense advantage in the struggle of trade":

If a merchant has £50,000 all his own, to gain 10% on it he must make £5,000 a year,
and must charge for his goods accordingly; but if another has only £10,000 and borrows
£40,000 by discounts (no extreme instance in our modern trade), he has the same capital
of £50,000 to use, and can sell much cheaper. If the rate at which he borrows be 5%,
he will have to pay £2,000 a year [in interest]; and if, like the old trader he makes £5,000
a year, he will still, after paying his interest, obtain £3,000 a year, or 30% on his own
£10,000. As most merchants are content with much less than 30%, he will be able, if he
wishes, to forego some of that profit, lower the price of the commodity, and drive the
old-fashioned trader-the man who trades on his own capital-out of the market.

Thus, the ambitious "new man," with little to lose and access to credit through the
market, can earn a greater return on his money than a risk-averse capitalist who borrows
little or nothing. The higher return enables the new man to undercut the other
man's prices and take business from him. True, the new man may lose on the venture,
and be taken out of the game, but there is always another new man on his way
up who is eager to replace him. As the richer man has a lot to lose, he risks it less,
and thus is always in the game, continually defending himself against one newcomer
or another until finally he packs it in, retires to the country, and invests in government
securities instead.

"This increasingly democratic structure of English commerce," Bagehot continued,
"is very unpopular in many quarters." On one hand, he says, "it prevents the
long duration of great families of merchant princes ... who are pushed out by the
dirty crowd of little men."

On the other hand, these unattractive democratic defects are compensated for by one
great excellence: no other country was ever so little "sleepy," no other was ever so
prompt to seize new advantages. A country dependent mainly on great 'merchant
princes' will never be so prompt; there commerce perpetually slips more and more into
a commerce of routine. A man of large wealth, however intelligent, always thinks, "I
have a great income, and I want to keep it. If things go on as they are, I shall keep it,
but if they change I may not keep it." Consequently he considers every change of circumstance
a bore, and thinks of such changes as little as he can. But a new man, who
has his way to make in the world, knows that such changes are his opportunities; he is
always on the lookout for them, and always heeds them when he finds them. The rough
and vulgar structure of English commerce is the secret of its life ...

In 1902, a young American named Bernard Baruch took Bagehot's essay to heart
and made himself the first of many millions in a Wall Street investment pool, buying
control of a railroad on borrowed money. The United States had come of age financially
around the turn of the century, and Wall Street would soon displace Lombard
Street as the world's center of finance.


(a) The Rise of the Americans. Early in the century, J.P. Morgan organized the
United States Steel Corporation, having acquired Carnegie Steel and other companies
in a transaction valued at $1.5 billion-an amount worth perhaps $30 billion
today. This was the largest financial deal ever done, not surpassed until the
RJR-Nabisco leveraged buyout transaction in 1989, and it occurred in 1902 during
the first of six merger booms to take place in the United States during the twentieth
century and first years of the twenty-first century. Each of these booms was powered
by different factors. But in each, rising stock markets and easy access to credit were
major contributors.

By the early 1900s New York was beginning to emerge as the world's leading financial
center. True, many American companies (especially railroads) still raised
capital by selling their securities to investors in Europe-they also sold them to
American investors. These investors, looking for places to put their newly acquired
wealth, also bought European securities; perhaps thinking they were safer and more
reliable investments than those of American companies. By the early years of the
twentieth century it was commonplace to find European, Latin American, and some
Asian issues in the New York market. This comparatively high level of market integration
proved especially beneficial when World War I came-both sides in the conflict
sought funds from the United States, both by issuing new securities and by selling
existing holdings, though the Allied Powers raised by far the larger amounts.

After World War I, America's prosperity continued while Europe's did not. Banks
had a busy time, raising money for corporations, foreign governments, and investment
companies and making large loans to investors buying securities. Banks were
then "universal." That is, they were free to participate in commercial banking (lending)
and investment banking, which at the time meant the underwriting, distribution,
and trading of securities in financial markets. Many of the larger banks were also involved
in a substantial amount of international business. There was trade to finance
all over the world, especially in such mineral-rich areas as Latin America and Australia.
There were new securities issues (underwritings) to perform for foreign
clients, which in the years before the 1929 crash aggregated around 25% of all business
done. There were correspondent banking and custodial (safekeeping) relationships
with overseas counterparts and a variety of overseas financial services to perform
for individuals, both with respect to foreigners doing business in the United
States and the activities abroad of Americans.

The stock market crash in 1929 was a global event-markets crashed everywhere,
all at the same time, and the volume of foreign selling orders was high. The Great
Depression followed, and the banks were blamed for it, although the evidence has
never been strong to connect the speculative activities of the banks during the 1920s
with either the crash or the subsequent depression of the 1930s. Nonetheless, there
were three prominent results from these events that had great effect on American
banking. The first was the passage of the Banking Act of 1933 that provided for the
Federal Deposit Insurance system and the Glass-Steagall provisions that completely
separated commercial banking and securities activities. Second was the depression itself,
which led in the end to World War II and a 30-year period in which banking was
confined to basic, slow-growing deposit taking and loan making within a limited
local market only. And third was the rising importance of the government in deciding
financial matters, especially during the post-war recovery period. As a consequence,
there was comparatively little for banks or securities firms to do from the
early 1930s until the early 1960s.

By then, world trade had resumed its vigorous expansion and U.S. banks, following
the lead of First National City Bank (subsequently Citicorp, now part of Citigroup),
resumed their activities abroad. The successful recovery of the economies of
Western Europe and Japan led to pressures on the fixed-rate foreign exchange system
set up in 1944. The Eurodollar market emerged from a surplus of U.S. currency available
outside the country; then the Eurobond market followed and the reattraction of
banks and investment banks to international capital market transactions.


(b) Global Banking Reemerges. Next came the 1971 collapse of the fixed exchange
rate system in which the dollar was tied to gold and other currencies were tied to the
dollar. Floating exchange rates set by the market replaced this system, obviating the
need for government capital controls. In turn, this led to widespread removal of restrictions
on capital flows between countries, and the beginnings of the global financial
system that we have today.

This system, which is based on markets setting prices and determining the flow of
capital around the world, has drawn many new players-both users and providers of
banking and capital market services. Competition among these players for funds, and
the business of providing them, has greatly increased both the stakes and the risks of
the banking and securities businesses. But the volume and size of transactions increased
steadily through the 1970s and 1980s.

The effects of competitive capitalism have been seen and appreciated during the
past decades as they have not been since 1929.

Continues...




Excerpted from International Finance and Accounting Handbook

Copyright © 2003 by Frederick D. S. Choi.
Excerpted by permission.
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
Excerpts are provided by Dial-A-Book Inc. solely for the personal use of visitors to this web site.

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Table of Contents

PART I: GLOBALIZATION OF FINANCIAL MARKETS.

1. Integration of World Financial Markets: Past, Present, and Future (ROY C. SMITH, New York University).

2. Globalization of the Financial Services Industry (INGO WALTER, New York University).

3. BIS Basel International Bank Capital Accords (LINDA ALLEN, Baruch College, CUNY; ANTHONY SAUNDERS, New York University).

PART II: FINANCIALANALYSIS.

4. Foreign Investment Analysis (DAVID K. EITEMAN, University of California, Los Angeles).

5. International Treasury Management (MICHAEL H. MOFFETT, Thunderbird—The American Graduate School of International Management; JAMES L. MILLS, Thunderbird-The American Graduate School of International Management).

6. Management of Corporate Foreign Exchange Risk (GUNTER DUFEY, University of Michigan and McKinsey & Co.; IAN H. GIDDY, New York University).

7. Interest Rate and Foreign Exchange Risk Management Products: Overview of Hedging Instruments and Strategies (RICHARD C. STAPLETON, Strathclyde University, United Kingdom; MARTI G. SUBRAHMANYAM, New York University).

8. Market Risk (ANTHON Y SAUNDERS, New York University; MARCIA M. CORNETT, Southern Illinois University).

9. Valuation in Emerging Markets (ASWATH DAMODARAN, New York University).

10. Business Failure Classification Models: An International Survey (EDWARD I. ALTMAN, New York University; PAUL NARAYANAN, Consultant).

11. International Diversification (EDWIN J. ELTON, New York University; MARTIN J. GRUBER, New York University).

PART III: WORLD SCENE OF ACCOUNTING AND REPORTING PRACTICES.

12. Summary of Accounting Principle Differences Around the World (WILLIAM E. DECKER, JR., PricewaterhouseCoopers LLP; PAUL BRUNNER, PricewaterhouseCoopers LLP).

13. Corporate Financial Disclosure: A Global Assessment (CAROL A. FROST, Global Capital Markets Access LLC; KURT P. RAMIN, International Accounting Standards Committee Foundation).

14. Globalization of World Financial Markets: Perspective of the U.S. Securities and Exchange Commission (SARA HANKS, Clifford Chance).

15. Taxonomy of Auditing Standards (BELVERD E. NEEDLES, JR., DePaul University).

PART IV: INTERNATIONAL ACCOUNTING HARMONIZATION.

16. International Financial Reporting Standards (PAUL PACTER, Deloitte Touche Tohmatsu).

17. European Harmonization (PETER WALTON, Open University Business School, United Kingdom).

PART V: REPORTING ISSUES.

18. Consolidated Financial Statements and Business Combinations (JAMES R. RATLIFF, New York University).

19. FAS 133: Accounting for Derivative Instruments (JEFFREY B. WALLACE, Greenwich Treasury Advisors LLC).

20. Accounting for the Effects of Inflation (HAROLD E. WYMAN, Florida International University).

21. Asset Securitization (LISA FILOMIA-AKTAS, Ernst & Young LLP).

22. Segmental and Foreign Operations Disclosures (LEE H. RADEBAUGH, Brigham Young University; DONNA L. STREET, University of Dayton).

23. Corporate Environmental and Social Reporting (CAROL ADAMS, Monash University; GEOFFREY FROST, University of Sydney; SIDNEY J. GRAY, University of New South Wales).

24. Corporate Governance in Emerging Markets: An Asian Perspective (JUDY TSUI, The Hong Kong Polytechnic University; TONY SHIEH, City University of Hong Kong).

25. Multinational Budgeting and Control Systems (FREDERICK D.S. CHOI, New York University; GERALD F. LEWIS, Mobil Corporation (retired)).

26. Dynamic Performance Measurement Systems for a Global World: The Complexities to Come (STEPHEN MEZIAS, New York University; PATRICE MURPHY, New York University; YA-RU CHEN, New York University; MIKELLE A. CALHOUN, New York University).

27. Financial Reporting in Hyperinflationary Environments: A Transaction Analysis Framework for Management (FREDERICK D.S. CHOI, New York University).

28. International Information Systems (JON A. TURNER, New York University).

PART VI: INTERNATIONAL TRANSFER PRICING AND TAXATION.

29. Transfer Pricing for Intercompany Transactions (ROBERT FEINSCHREIBER, Feinschreiber & Associates; MARGARET KENT, Feinschreiber & Associates).

30. International Taxation (PAUL M. BODNER, Attorney-at-Law).

PART VII: INTERNATIONAL AUDITING.

31. Managing the Audit Relationship in an International Context (NORMAN R. WALKER, PricewaterhouseCoopers LLP; SEYMOUR JONES, New York University).

32. Internal Auditing (SEYMOUR JONES, New York University).

Index.

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