THE ROLE OF FINANCIAL REPORTING AND AUDITING

IN CREATING VIBRANT EMERGING MARKETS

By Ian Ball, Chief Executive Officer International Federation of Accountants

5th Islamic Financial Services Board Summit “Financial Globalization and Islamic Financial Services”

Amman, Jordan – May 14, 2008

Thank you for inviting me to join this very distinguished panel.

Given that this is an audience not primarily made up of accountants, I thought it might be helpful if I spent just a few minutes explaining who the International Federation of Accountants is, and what we do. This will provide some context for the remarks that follow.

First, IFAC is an organization of professional accountancy institutes. We have 14 members and associates in the Middle East, including two here in Jordan – the Jordanian Association of

Certified Public Accountants and the Arab Society of Certified Accountants. In total we have

157 members and associates spread across 123 countries, representing approximately 2 ½ million accountants.

As to what IFAC does, a primary function of the organization is to set professional standards.

Most importantly we set, through our International Auditing and Assurance Standards Board,

International Standards on Auditing (ISAs). We also establish a Code of Ethics for Professional

Accountants, which is the basis for codes of ethics of our members. The other two areas in which

Page 1 of 13 we set standards are education (the International Education Standards) and public sector accounting, where we set International Public Sector Accounting Standards (IPSASs). The

IPSASs are the equivalent of the International Accounting Standards Board’s International

Financial Reporting Standards, though the IPSASs apply to governmental organizations not companies.

In addition, IFAC has activities that support its standard setting role. In particular, we have a

Small and Medium Practices Committee that provides input to the standard-setting bodies (and also to the International Accounting Standards Board) from the perspective of small- and medium-sized enterprises (SMEs) and small- and medium-sized accounting practices (SMP).

We believe it is critical that this perspective be reflected in our standard-setting processes. Also, we have a Developing Nations Committee which, similarly, seeks to ensure that our standard setting reflects the views and needs of developing and emerging economies.

I should note that in the post-Enron environment, IFAC made significant reforms to its standard- setting processes. These reforms could be characterized as moving from a self-regulatory model to a shared regulatory structure. A number of changes were made to our processes to ensure greater transparency but, most importantly, we established, along with the international regulatory community, an oversight structure that could ensure that our standard setting reflected the public interest. These reforms have now been in place for over three years and have done much to generate confidence in the standards set by the International Federation of Accountants.

Page 2 of 13 Finally, I should note that out of the 2 ½ million accountants that we represent, over half are professional accountants in business, a term we use to describe those not working in public practice. We also have a committee that more specifically addresses the needs of professional accountants in business.

Let me now move to my more formal remarks.

In recent years, Islamic finance has experienced a huge expansion, with products that are compliant with Sharia law becoming one of the fastest growing areas of banking. Globalization is helping to fuel that growth. And, despite a worldwide credit crisis that has seen billions of dollars written off the balance sheets of conventional banks, Islamic banks and financial institutions are continuing to do well. The International Monetary Fund has reported recently that there are now more than 300 Islamic financial institutions in over 50 countries, as well as more than 250 mutual funds, that comply with Islamic principles. The IMF also noted that the

Islamic banking industry has grown by a robust 10-15 percent per year over the past decade, a trend that the IMF expects will continue. And I have seen higher estimates of the anticipated growth rates.

These figures demonstrate the growing strength of Islamic finance. But we can also see how much the Islamic financial system has become interconnected with global financial markets, including through institutions that provide both Sharia compliant and traditional financial services. Notwithstanding this past growth, and the estimates for the future, it is important to remind ourselves that in a globalized marketplace, events in one country can have a profound

Page 3 of 13 impact on the markets in other countries. One important defense against market volatility and crises of confidence continues to be transparent and high quality financial reporting.

This morning, I would like to discuss how the accountancy profession, governments, regulators, and standard setters can work together to establish strong national infrastructures that promote transparent and high quality financial reporting and auditing. My remarks will focus on three main ideas:

1. How financial reporting and auditing, as part of the financial information system,

contribute to the development of emerging markets;

2. The continuing need for strong national and regional infrastructures, while converging to

international standards; and

3. How the International Federation of Accountants (IFAC), through the development of the

accountancy profession, is contributing to economic growth and development in

emerging markets.

One last comment, before I address my first point. The discussions we are having today transcend the particulars of financial institutions and infrastructures and, ultimately, have an impact on the quality of our lives. Building strong economies and enhancing competitiveness around the world is the most effective means of reducing poverty and improving the lives of millions of people. Seeking to grow capital markets serves not only economic purposes, but achieves social and human objectives as well.

Page 4 of 13 Now, to my first point:

The Contribution of Accounting and Auditing to a Strong Financial System

Perhaps the single most important factor in creating healthy capital markets, and promoting economic growth and development, is establishing a high quality financial information system.

Investors, who drive capital markets, base their decisions, to a significant degree, on an assessment of how well financial reports reflect a company’s financial position. Their confidence in the information they receive is critical. Without that confidence, they will question the integrity of financial and other information, they will expect a risk premium and they will be less willing to invest, given the increased cost of capital. Recent events show just how important confidence is. One need only look at Northern Rock in the UK and Bear Stearns in the U.S. to see that a loss of confidence can happen very, very quickly and can have a very, very profound impact.

Conversely, we know from the experience of many emerging countries – such as Malaysia and

South Africa – that strengthening the investment climate by improving transparency and accountability – of which accounting and auditing are key elements – attracts investors, including foreign investors, and contributes to the growth of the economy. Improving transparency and accountability also contributes to the enhanced competitiveness and responsibility of an entity, and to strengthening its governance and financial discipline.

Page 5 of 13 Reference was made yesterday to accounting being a language. In a global context, as well as in the context of Islamic finance, transparency and accountability are enhanced by participants speaking the same language. I believe that we are at a significant moment in history.

The babble is subsiding as more and more countries are speaking the same accounting language and the same auditing language. Today, the majority of countries in the world – from small, developing countries to very large, developed ones – have adopted or are moving to adopt

IFRSs, developed by the International Accounting Standards Board, and ISAs, which are developed by IFAC’s International Auditing and Assurance Standards Board (IAASB). The trend to the adoption of international standards has been given a huge boost in the past year by the United States Securities and Exchange Commission announcing that it is considering allowing U.S. companies to apply IFRSs rather than its own Generally Accepted Accounting

Principles.

This has, I believe, accelerated greatly the speed at which convergence to international standards is occurring, and made the case for different standards so much more difficult to advance seriously. The European Union has already mandated IFRSs for all publicly listed companies throughout the bloc, and it is currently considering a process for a similar adoption of ISAs.

Support for ISAs also comes from international organizations, such as the International

Organization of Securities Commissions (IOSCO), which issued a statement in November 2007 that said in part, “The development of high quality internationally accepted auditing standards is beneficial to the global capital markets.” In addition, the Financial Stability Forum has identified

Page 6 of 13 IFRSs and ISAs as two of the 12 key standards for sound financial systems, that also were referred to yesterday.

Our conference convener today, the Islamic Financial Services Board (IFSB), has demonstrated its commitment to international standards through its active participation in the IAASB

Consultative Advisory Group (CAG). It is a real pleasure to be able to acknowledge here the contribution of the IFSB to the CAG and recognize your Secretary General, Professor Rifaat

Ahmed Abdel Karim, for his service as the IFSB representative on the CAG. The IFSB also sits, again through Professor Rifaat, on the International Accounting Standards Board’s Standards

Advisory Council, another arena where the IFSB participates in, and contributes to, international standard setting.

Many countries here in the Middle East have formally adopted IFRSs and ISAs as a means to strengthen financial reporting and auditing in their markets. This is an important step for which they should be commended.

We recognize, however, that there can be difficulties in adopting and implementing IFRSs and

ISAs. Such difficulties can occur when international standard setters do not receive, or do not sufficiently heed, input from the diverse groups around the world who must give effect to the standards. Recognizing the challenges of achieving agreement on standards does not remove the obligations on international standard setters to listen carefully or on those who wish to influence the development of the standards to speak clearly. What I can say is that over recent years we at

IFAC have tried very hard to ensure appropriate representation on our standard-setting boards

Page 7 of 13 from all regions of the world. What is needed now is for us to all recognize that there needs to be a shift of focus from debating the case for convergence or adoption, to consideration of how to make it work. This does not let national jurisdictions off the hook. I will talk in a moment about what needs to be done.

All this does mean is that the professional accountants who prepare financial reports, and the professional auditors who validate those reports, are essential participants in ensuring the quality of this financial reporting system – the financial reporting supply chain. One of the key human resources issues highlighted yesterday was the shortage of Sharia scholars. Another key shortage in many countries is well qualified accountants and auditors who are familiar with international accounting and auditing standards.

The Need for a National Infrastructure

IFAC has long supported convergence to a single set of globally recognized standards, whether it is accounting standards, which we do not set, or auditing standards which, through the

International Auditing and Assurance Standards Board, we do set. (Actually we do set accounting standards, but for governments, not for companies.) As countries in your regions increasingly converge to or adopt international standards, you will want to consider how you address the issues raised by us speaking the same language.

This brings up an important point. In adopting international standards, there is a need for countries to develop an appropriate national or regional infrastructure to support their adoption and implementation. First, whether at a national or regional level, there needs to be capacity to

Page 8 of 13 input to the international standard setting processes. This is in large part to ensure that the richness of different experience contributes to the quality of the standards. Standards that have been tested for their application in widely differing contexts are likely to be more robust than those formulated with a narrow set of circumstances in mind. In other words, standards developed in a manner that accommodates both Islamic and conventional financial services are likely to be superior.

Howard Davies talked last night about some of the common elements between traditional and

Sharia financial regulation – I fully endorse the need to develop both standards and regulatory policies that to the extent possible meet both sets of circumstances. Countries also need an infrastructure to support the dissemination of exposure drafts and final standards on a national or regional basis, in other words to coordinate responses to draft standards. The national infrastructure can also assist in addressing the challenges posed in implementing standards.

These include the challenges to a country’s education system by the adoption of international standards, such as the need for developing appropriate courses for accounting students and implementing continuing professional development for existing members of the profession. This is an issue which, interestingly, is just starting to be addressed in the United States.

A strong and well-functioning national accounting and auditing infrastructure requires, at its core, an established professional accountancy body that is strengthened through collaboration and cooperation among the government, regulators and the profession.

Page 9 of 13 This leads me into my third theme:

How IFAC Supports Accounting and Auditing in Emerging Economies

At the global level, IFAC is working actively to support the establishment and ongoing development of national professional accountancy bodies in countries around the world. One of the key ways in which we are doing this is through our Member Body Compliance Program, in which all of IFAC’s 157 members and associates are required to participate. The aim is simple – as the program is implemented we expect users of accounting and auditing services around the world to be able to place more reliance on the consistent high quality of those services. We do not see this as a simple task or one that will be achieved quickly. But we do see it as being extremely important.

The Compliance Program was established in November 2003 to evaluate IFAC’s members’ and associates’ achievements in meeting our membership requirements, as set out in the Statements of Membership Obligations, or SMOs. The clear articulation of the SMOs, which relate largely though not exclusively to the adoption of international standards, was the first step in establishing the compliance program. The second stage was for IFAC members and associates to complete self-assessment questionnaires designed to determine whether, and how, they are complying with the SMOs.

The Compliance Program is now in the third phase, which involves the development of action plans. IFAC is in the process of developing policy recommendations for members with gaps in

Page 10 of 13 compliance. (As of the end of April, policy recommendations had been provided to 90 member bodies and associates – including Egypt, Saudi Arabia and Turkey – and the remaining recommendations will be sent out over the next couple of months.)

On the basis of these recommendations, members and associates will develop action plans to close the gaps between the present situation and their desired future. Further information about the Compliance Program, including member and associate responses, is available on our website at www.ifac.org.

To further support the development of strong professional accountancy bodies, IFAC provides a wide range of tools and resources, including:

 Mentoring Guidelines for Professional Accountancy Organizations;

 Guidance on applying ISAs in SME audits; and

 Global accountancy news and other information relating to the profession, available on

the IFAC website. Much of this information, incidentally, has been translated into

Arabic.

We have also developed good practice guidance on Establishing and Developing a Professional

Accountancy Body. This guidance – which addresses the roles and responsibilities of a professional accountancy body, education, and capacity development – has been translated into

Spanish, Russian and French. An Arabic translation is currently being developed.

Page 11 of 13 One of the key objectives of this guidance, and of the Member Body Compliance Program, is the development of strong national professional accountancy bodies around the world. We believe that if accounting and auditing is fundamental to economic growth and development, and if professional accountancy bodies are essential to high quality accounting and auditing, then this is an important part of our work. Professional accountancy bodies provide a forum in which their members can share experiences and solve problems, and through which they can collectively represent the profession in its relationships with the government, regulators and others.

Accountancy bodies also play a role in licensing and certifying their members, enforcing ethical requirements, and in developing quality assurance and continuing professional education programs.

As I mentioned earlier, IFAC has 14 member bodies and associates in the Middle East, including two here in Jordan: the Jordanian Association of Certified Public Accountants and the Arab

Society of Certified Accountants. Through their membership in IFAC, all these organizations have committed to promoting high quality practice in their countries and throughout this region, and to contribute to the development of the accountancy profession globally. We value their membership of IFAC and their participation in our compliance program.

With a rising GDP and growing population, the marketplace here in the Middle East and in other

Islamic countries has a tremendous potential for growth. In addition, the Islamic financial system is well placed to support long-term growth with its emphasis on transparency and accountability, promotion of entrepreneurship, preservation of property rights, and the

Page 12 of 13 enforcement of contractual obligations, all of which are essential to creating vibrant national and regional economies.

Developing strong financial reporting and auditing systems that produce dependable sources of information for investors is of paramount importance. It requires a strong accountancy profession, supported by national professional accountancy bodies that guide and educate the current and future generations of accountants and auditors. It also takes collaboration between the government, regulators, the profession and others to design and build a financial reporting infrastructure that supports long-term growth. Ultimately, the establishment of a strong financial information infrastructure will help to create a consistent regulatory framework across the

Middle East and other Islamic nations and will do much to strengthen the financial information systems that keep capital markets vibrant and healthy.

Thank you for your attention.

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