Japanese Accounting System - Essay Example

Japanese Accounting System Words: 2548 Background Accounting in Japan Before the introduction of double-entry bookkeeping method in Japanese accounting system, the indigenous accounting method was used (Wellum 2008). The old system did not have double entry and had two methods of calculating profits. It is only through internationalization that double entry bookkeeping was introduced. In other words, the introduction of double entry bookkeeping is one aspect of westernizing the Japanese accounting system (Okada 1997). Prior to this time, the central government was very influential and determined what happened in the accounting and financial sectors. Accounting regulation before the WWII Before the start of WWII, the Japanese accounting system was mainly guided by the 1899 Commercial Code, which was derived from the German system also known as the Continental Law (Heenan 2000). This was the only law in Japan that had compulsory parts and clauses on accounting particularly with regard to preparation of inventory sheet and balance sheet. It also spelt out rules of valuing assets, which were originally valued at the market price and then a price set below the market. When this law is closely examined, it is evident that English had a lot of influence on practice, whereas German had some influence on statutory law. Accounting Regulation after the WWII After the Second World War, new laws were enacted to supplement the Commercial Code. Some of the new laws included Corporation Tax Law, Securities & Exchange Law and the creation of the so-called “triangular system.” In 1949, the Accounting Principles for Business Enterprises was established (Hoshi 2000). This was established under the auspices of the Business Accounting Deliberation Council (BADC), which served as an advisory agency to the Ministry of Finance. Generally, the Accounting Principles for Business Enterprises served as a major source of Japanese GAAP. “Triangular System” The “Triangular System” had three codes, as well as business accounting principles including the Commercial Code, Corporation Tax Law and Securities & Exchange Law (Hoshi 2000). Specifically, the Commercial Code provides the standard of filing tax returns and acts a conformity rule for preparing financial statements. It is also associated with regulations, ordinances and notices. The Ministry of Justice in accordance with Sec. 32-2, of the 1974 GAAP, administers the Commercial Code (Hoshi 2000). The Corporation Tax Law is administered by the ministry of Finance and NTA. Finally, securities & Exchange Law is administered by the FSA and follows the Accounting Principles for Business Enterprises, which is considered to be the fundamental Japanese GAAP. Present accounting standards Housing bubbles burst The aspect of the housing bubble was because of the quasi-feudalistic institutional structure of Japanese economy ( Tsuji 1995). Many scholars think that the feudalistic power of the Finance Ministry inhibited the establishment of true money and financial markets in the country. In addition, the commercial success of the manufacturing industry resulted in Japanese banks of massive wealth, although without the parallel level of financial expertise and skill. Japanese financial institutions typically relied upon the guidance given by the Ministry of Finance and subsequently did not exercise adequate independent judgment and had not learned to manage financial challenges. In the mid 1980s, the deregulation of interest rates particularly on deposits commenced. Before then, interest on deposits was not paid by the banks (Kenjoh 2004). The removal of this ban resulted in competition between financial institutions for deposits and ultimately to payment of interests. Japanese financial institutions did not increase interest rates they charged debtors and therefore did not offset the impact of the higher costs associated with their funds. The banks managed to make up for the decline in their returns by selling the stock shares and treated the realized capital gains as returns or profits (Sunder & Yamaji 1999). However, due to the commitments of cross holding of stock amongst different members; they soon afterwards bought back the shares at an increased price. This simply meant that they would then count or treat the capital gains as returns or profits. As such, they had to pay the required tax on the capital gains, although by buying back the shares, they had already gotten back their initial assets. With this process, they experienced huge losses of cash flow ( Someya 1999). This meant that any additional decline in stock markets would definitely mean disguised loss of capital. These challenges led to the establishment of the Bank of International Settlements (BIS). The rules espoused by the BIS were vital for Japanese financial institutions (Edwards 2005). According to BIS rules, the capital of banks is made up of two parts. The first part of capital is composed of retained earnings and the stockholders funds. The second part capital is composed of "hidden assets" and loan-loss reserves. In other words, close to Forty-five per-cent of capital gains that are not realized on stocks are treated as "hidden assets." BIS made this compromise to accommodate the Japanese banking system. However, some members did not permit the treatment of unrealized capital gains bank capital ( Hoshi & Kashyap 2004). This aspect made the Japanese financial institutions vulnerable to fluctuations or changes in the stock market prices. In fact, even after the stock market crash in 1990, Japanese bank shares remain among the shares that are overvalued in worlds stock and capital markets (Hoshi 2000, pp. 1-4). However, upon the collapse of the Tokyo stock market in 1990, these financial institutions had a difficult time maintaining the requirements of BIS-eight per-cent capital ratio. Many banks collapsed (Okimoto & Rohlen 1988, p. 19). During the "Bubble Economy”, all financial institutions were allowed to borrow widely in the Euro-dollar markets (Friedland 1994). Approximately, by mid 1990, they had already borrowed close to 186 trillion Yen. Again, from the borrowed funds, these banks started lending out extensively. They focused on the American real estate market when the market was at its peak. Consequently, they suffered huge losses when values of property started declining. By 1992, some of the largest banks in Japan such as the IBJ and the LTCB had close to four billion dollars of loans tied on property that was not meeting payments. The attempt by government agencies to deal with the situation typically entailed trying to employ some quick fix approaches instead of correcting flaws in the financial structure (Aoki & Saxonhouse 2000, p. 19). The government attempted to increase prices in the stock or capital market by mainly ordering public sector banks to purchase stocks. In short, the banking system severely suffered losses from loans utilized to purchase property. Employees and workers were paid with unsold business inventory putting companies at a verge of collapse (McMillan 1996). This is because the government policy discourages all Japanese organizations from reducing their labour force. Financial crisis in Asia The main causes of the Asian financial problems are several and differ significantly from country to country. In general, the economies in the entire Asia had been growing at rates of five to ten per-cent annually before the crisis started in 1997 (International Monetary Fund 2003). These countries were opening their doors to foreign goods and services, foreign direct investments, capital flows, and were heavily relying on dollar markets, especially from the US. In most of these countries or newly industrialized economies, the financial services sector had been rapidly developing and without sufficient government control mechanisms, regulation, and oversight. Upon liberalizing capital markets, financial institutions in these countries could officially borrow overseas at moderately low interest rates and re-lend the money locally. Before the crisis occurred, foreign borrowing by these economies had significantly shifted from depending on governments to private sector borrowing. Whilst in the 1970s, these governments used to borrow funds from World Bank for infrastructural development, in the 1990s, local financial institutions borrowed directly from one of the largest money centre banks in New York (Vittas & Kawaura 1995). In short, the financial crisis in Asia started in currency markets, although the unstable rate of exchange was primarily caused by challenges in the financial sectors of these countries. Even though Japan is not taken as considered one of the Asian economies that witnessed a currency crisis, it had been witnessing a number of the same issues that were confronting its Asian neighbours (Heenan 2000, p. 100). For instance, Japans financial sector carried close to an estimated US$0.6 Trillion in questionable and nonperforming debts despite aggressive write-offs undertaken by the government. After the world-attention started illuminating the financial problem in Japan particular with regard to nonperforming loans, the government announced that there was a total of close to U$ 0.4 Trillion, which was about nine per-cent of gross national product (GNP) (Someya 1999). Foreign Investor Confidence The economic situation in Asia and specifically in Japan led to a liquidity trap. This is an economic scenario where investors hold on cash instead of investing. This situation took place in Japan and even the entire Asia for several reasons including lack of confidence in the local economies as they were experiencing an economic underperformance (Someya 1999). In addition, investors had reservations with low interest rates due to the ineffectiveness of monetary policy. With these foreign investors especially from United States, simply did not spend or invest. People thought that goods and services would be affordable in the coming days, so they waited to consume later. Others believed they could earn better profit by simply holding on to their cash than by investing in the crushing real estate industry (Someya 1999). Stress from IASC The International Accounting Standards Committee (IASC) was set up in early 1970s to harmonize global standards of accounting. The contemporary Japanese business accounting system has gradually been established since the end of the First World War. The system is “triangular” in structure and involves about three lines of the financial or accounting system. This is mainly based on commercial law, corporation tax law, securities, and exchange law (Friedland 1994). This was in line with internationalization of accounting systems. However, the financial crisis witnessed in Japan in 1990s revealed the presence of massive non-performing loans as well as lenient financial management standards putting the quality of auditing services into perspective (Friedland 1994). Thus, in the process of enhancing the quality of services in the field of accounting, the international firms placed more pressure on the management of Japanese accountancy companies. With this, Japanese accountants were not happy when the Big Five particularly requested that Japanese companies to add to their audit reports a line indicating that report was mainly prepared as par Japanese accounts standards and therefore was not essentially accepted globally (Friedland 1994). ASBJ- nongovernmental organization ASBJ was established in 2001 as a private entity to help develop the Japanese accounting standards. It has been developing the accounting standards under the fundamental principles of fairness, independency, and transparency, while taking into consideration the international accounting standards. ASBJ agitates for a reduction in the differences between the Japanese accounting system and the international account system. Then, ASBJ was built, and nongovernmental and permanent organization, which meets IASB’s related rules (Okada 1997). Besides Japan official states that internationalizing Japanese accounting is to eliminate divergence of IFRS and accounting standard of Japan. Accounting principle of Japan General principles These principles emphasize True and Fair View; Distinction between Capital and Earnings; Orderly Bookkeeping; Continuity; Fair Presentation; Conservatism; and Consistency. Free refers to liberal market under market principle, and fair refers to markets that are transparent and reliable (Heenan 2000). Both the income principle and balance sheet principle emphasize on profit measurement, whilst historical cost principle emphasis strong adherence to costs. This is in line with the international standards as opposed to local Japanese standards, which concealed costs. Comparison between Japanese Accounting system and Chinese accounting system The state of accounting system in Japan and China is highly influenced by the system of government in place. China China is under socialism, therefore the accounting rules are highly impacted by the government of the day, as well as the Communist Party. In other words, the government determines the system to be used in the filed of accounting ( Someya 1999). In addition, the accounting law of the People’s Republic of China is established under the general principals relating to nature as well as the rule of accounting (1985, revised 1993). In addition, the People’s Republic of Chinas State Council is responsible for issuance of Financial Accounting and Reporting Rules (FARR). This represent new era particularly in Chinese accounting, as is based on market approach. The rules, as well abolish fund accounting and users of information beyond the state of the government are all recognized. The most important thing is that the government has led far-reaching reforms together with accounting organizations. Japan Japan is a capitalistic country. However, the government still has significant influence on the major accounting issues. The local constitution mainly emphasizes commercial code, securities and exchange law, and corporation tax law, which are mainly influential, is streamlining the accounting sector ( Tsuji 1995). In Japan, some government institutions are involved directly in setting standards, some of these institutions include Ministries of Justice and Finance that have a joint jurisdiction. The dual jurisdiction mostly leads to lack of unified approach to matters of setting proper standards. Furthermore compared to China, accounting profession is small and lacks influence because it is not well developed as it was internationalized in recent times ( Tsuji 1995).In fact, just like the local culture, the accounting system is more secretive with little disclosures on how capital and even returns on capital are treated. Many local companies offer courtesy financial statement translations with tax authorities and creditors have information preference. Furthermore, in Japan, immediate write-offs are widely accepted and capitalization and amortization is as well permitted to varying levels ( Tsuji 1995). Reference value for Chinese Accounting In 2006, the government of China introduced a revised financial or accounting legislation ( Reszat 2002, p. 70). This was the outcome of considerable deliberation, as well as protracted debate, involving the Chinese Finance Ministry, IASB members and representatives of some firms in China. The reform of the Chinese system started long time before that of Japan. The Chinese accounting reform commenced with the enactment of laws and regulations governing the businesses and enterprises with foreign investment. This provided the much needed accounting platform to assist businesses in attracting FDI ( Allen , Qian, & Qian 2003). Therefore, the Chinese ASBE (Accounting Standards for Business Enterprises), along with the thirteen-industry regulation board, have been at the forefront trying to move the Chinese accounting practice of SOEs to the International Accounting Standards (IAS). Nonetheless, the most blatant problem in Chinese accounting system was initially the lack of autonomous, professional auditors, as well as legal professionals ( Misawa 2011). However, with internationalization or movement towards IAS-based standards, the issue was solved and now highly trained professionals dominate the accounting field, as well the justice system. China managed to develop its existing accounting and financial system, as opposed to simply adopting banking and financial system employed in other developed countries (Monden & Kosuga 2007, p. 85). Furthermore, the development and enhancement of the justice system, as well as the development of the accounting system highly support the growth of both formal and the informal sector in the country. This is attributed mainly to three factors: Accounting status and regulations are more perfect meaning they do not have loopholes that encourage bad practices. Second, high-level skilled labor and thirdly, the internationalization process dominate them (Monden & Kosuga 2007, p. 86). List of References Allen , F., Qian, J., & Qian, M 2003. Comparing China’s Financial System. China Journal of Finance, 1, 1-28. Aoki, M., & Saxonhouse, G 2000. Finance, Governance, and Competitiveness in Japan. Oxford [England]: Oxford University Press. Edwards, J 2005. Twentieth Century Accounting Thinkers (RLE Accounting). New York: Routledge. Friedland, J 1994. The law and structure of the international financial system : regulation in the United States, EEC, and Japan. Westport, Conn. : Quorum Books, . Heenan, P 2000. The Japan Handbook. New York: Taylor & Francis. Hoshi, T 2000. Crisis and change in the Japanese financial system. Boston, Mass. : Kluwer. Hoshi, T., & Kashyap, A 2004. Corporate Financing and Governance in Japan: The Road to the Future. London: The MIT Press. International Monetary Fund 2003. Japan: Financial System Stability Assessment and Supplementary Information. New York: International Monetary Fund. Kenjoh, E 2004. Balancing work and family life in Japan and four European countries: econometric analyses on mothers employment and timing of maternity. Amsterdam: Universiteit van Amsterdam. McMillan, C 1996. The Japanese industrial system. Berlin: Walter de Gruyter. Misawa, M, 2011. Current Business and Legal Issues in Japans Banking and Finance Industry. New Jersey: World Scientific. Monden, Y., & Kosuga, M 2007. Japanese Management Accounting Today. New Jersey: World Scientific Pub. Co. Okada, E 1997. Financial Control Through Japans Main Bank System and the Japanese Accounting System: The Past and the Future. New York: Center on Japanese Economy and Business. Okimoto, D., & Rohlen, T 1988. Inside the Japanese system : readings on contemporary society and political economy. Stanford, Calif.: Stanford University Press. Reszat, B 2002. The Japanese Foreign Exchange Market. New York: Routledge. Someya, K 1999. Japanese accounting a historical approach. New York: Oxford Clarendon Press. Sunder, S., & Yamaji, H 1999. The Japanese Style of Business Accounting. New York: Greenwood Publishing Group. Tsuji, A 1995. Studies in accounting history :tradition and innovation for the twenty-first century. Westport, Conn. u.a: Greenwood Press,. Vittas, D., & Kawaura, A 1995. Policy-based Finance, Financial Regulation, and Financial Sector Development. New York: World Bank publications. Wellum, J 2008. December 5, Moral standards and long-term wealth creation in China. , [online] Available at:< http://www.cardus.ca/comment/article/757/moral-standards-and-long-term-wealth-creation-in-china/>[Accessed 12 March 2015]. Read More