Abstract
We develop a theoretical model and provide empirical evidence on how accounting rules affect firm behavior during financial crises. Specifically, we examine how firms' accounting choices—particularly conservatism versus flexibility—influence bond pricing, which in turn affects corporate investment decisions and real economic outcomes.
Our theoretical analysis shows that during crises, conservative accounting that forces recognition of losses improves creditor information and reduces bond yield spreads, but may temporarily reduce firm willingness to invest. Flexible accounting that defers loss recognition may temporarily maintain favorable bond pricing but creates information risk that eventually manifests in higher yields and reduced investment. Our empirical evidence from multiple financial crises supports these predictions, suggesting that accounting rules have important consequences for credit markets and investment decisions beyond their immediate disclosure effects.
Key Findings
Accounting Conservatism Effect
Conservative accounting that forces early loss recognition during crises ultimately reduces bond yield spreads by providing creditors with accurate information about firm conditions.
Investment Consequences
Bond pricing effects from accounting choices directly affect firm investment decisions, with firms that maintain favorable bond pricing showing higher capital investment.
Information Risk Premium
Flexible accounting that defers loss recognition creates information risk that bondholders eventually price in through higher yield spreads, leading to later investment reductions.
Real Economic Effects
Accounting rule choices during crises have measurable effects on firm investment, employment, and economic activity beyond immediate disclosure and signaling effects.
Research Contribution
This paper contributes to understanding the real economic consequences of accounting rule choices. Rather than treating accounting as purely a disclosure mechanism, we demonstrate how accounting rules affect credit market equilibrium and firm investment decisions during crises.
Our findings have important implications for accounting standard-setting during crises, for understanding how regulatory policy affects financial stability, and for evaluating the trade-offs between different approaches to loss recognition and disclosure. The results suggest that accounting policy choices have first-order effects on credit markets and real economic outcomes, particularly during periods of uncertainty and financial stress.