| I investigate the effect of the revisions in the Chinese accounting system, which became effective in 1998 (the 1998 System), on earnings quality. I measure earnings quality in terms of its predictive ability for future cash flows and its association with stock market returns. Although the 1998 System was enacted to improve the quality of accounting information, it also increased the discretion of management in the accounting process. Because of weaknesses in auditing and corporate governance mechanisms in China, it is not clear what the net impact of the 1998 System is on earnings quality.; The sample includes 576 firms listed on two Chinese stock exchanges, the Shanghai Stock Exchange (SHSE) and the Shenzhen Stock Exchange (SZSE). I obtain their financial statements computed under the 1992 System and restated financial statements computed under the 1998 System from the Taiwan Economic Journal Database and a database maintained by Guotai Junan Securities Research Institute.; Overall, the results are mixed and show that earnings computed under the 1998 System appears to provide better forecasts of future cash flows. However, earnings computed under the 1992 System is more closely related to stock returns in 1998. Consequently, these results suggest it is difficult to conclude that earnings quality increases under the 1998 System. These results provide a basis for future studies to explore whether the lack of improvement in earnings quality observed in my study is attributable to the management's opportunistic use of the discretion allowed under the 1998 System. |
