motivationresearch questionsexperimentsresultsconclusions steven huddart & hong qu rotten apples...

Motivation Research Questions Experiments Results Conclusions

Steven Huddart & Hong QU

Rotten apples and sterling examples: Moral reasoning and peer influences on honesty in budget reporting

Wilfrid Laurier University, October 31, 2014


Why do accountants care about norms and honesty?

• Accounting, at its foundation, concerns the reporting of private information.

• The analysis of private information communication in agency theory assumes pure self-interest maximization.

• BUT, the reporting behavior of others may affect one’s own reporting behavior.


Importance and application

• Sorting employees according to moral characteristics and promoting good norms within organizations may be underused ways to improve performance

• Art Wyatt argued in an AAA plenary address that Arthur Andersen was brought low by bad corporate culture.


Guides to behavior

• Traditional economic models incorporate– contractual incentives– legal incentives– reputational considerations

• Individuals also have innate preferences to conform to the behavior of their peers.– injunctive norms of behavior– empirical norms of behavior


Norms for all kinds of acts: Empirical evidence

• Desirable action: Kim, Morse, and Zingales (2006):– Academics’ research productivity is influenced by the cultural

norm of the department that houses them.• Undesirable action: Fisman and Miguel (2006):

– Differing propensities of Nigerian and Norwegian diplomats posted to New York City to accumulate unpaid parking tickets

– Social norms related to corruption are significant and persistent because diplomats behave like others in their home countries.

• Undesirable action: Chen and Sandino (2011)– Retail theft and collusive retail theft by employees is lower

when pay is higher.– higher wages have the direct effect of curbing employee theft

and also promote an ethical environment among coworkers


Norms for all kinds of acts: Experimental evidence

• moral development affects decisions– Arnold and Ponemon (1991): internal auditors with high

moral development are more likely than those with low moral development to suggest whistle blowing

• social norms influence decisions– Ponemon (1992a): peer pressure increases the likelihood

that audit staffers will under-report the time spent on an audit task.

– Lord and DeZoort (2001): peer pressure increases the likelihood that auditors sign off on financial statements that are materially misstated.

– Ponemon (1992b): public accounting firms select and promote individuals who demonstrate a low but homogenous stage of moral development.


Kohlberg’s (1969) Theory of Moral Reasoning

• Pre-conventional: responds to individual rewards and penalties

• Conventional: desire to respect group norms of behavior

• Post-conventional: motivated by personal principles and values


Neo-Kohlbergian Schema

• People have three traits in varying degrees– Personal interest

• Machiavellian (like Hartmann & Maas 2010, Cristie and Gies, 1970)

– Maintaining norms (or conformity)• Fischer & Huddart (2008)

– Post conventional• Lord & DeZoort (2001)


Formalizing Kohlberg:Fischer & Huddart (2008)

• Risk-neutral agent maximizes pay net of personally cost of actions

• wi + bi r(ai ) – f(ai – Nai )

• where

f(x) is the cost of the act

Nai is psychic cost to i due to norm for action a


Structure

Norm of behavior, Nai = (1 – i)Pi – iS, where

Pi represents the personal standard of agent i, i.e., the injunctive norm

S is the endogenous average behavior of the peer group, i.e., the empirical norm

i [0,1) represents extent to which agent is conventional


Features• Action, ai, influences performance measure

used for contracting.

• Action is beneficial to the principal.

• Action choice is influenced by a personal norm of behavior, Pi, and a social norm of behavior, S.

• The weight on the social norm, i, measures the extent to which the agent is conventional.

• Social norm of behavior is endogenous—it depends upon how agents behave within the organization.


Motivation

• Theory of moral reasoning (Kohlberg, 1969)– Pre-conventional: responds to individual rewards and

penalties– Conventional: desire to respect group norms of

behavior– Post-conventional: motivated by personal principles and

values

• A model with endogenous social norms (Fischer and Huddart 2008)– Behavioral assumptions

• Economic self-interest• AND• a personal standard for behavior• AND• a desire to conform to the average behavior of a peer group



Contributions

• Probe the validity of assumptions about about the behavioral roots of honesty that underlie such models as Fischer & Huddart (2008) regarding.

• Examine how individual traits explain heterogeneous reporting behavior in vacuo, and subsequent to social influence.

• Challenge the importance of the p-score relative to the maintaining norms score.

• Extend ethics research in accounting by linking practical reporting outcomes to neo-Kohlbergian schemas.

Motivation Research Questions Experimental Setup Results Conclusions


Budget Reporting Experiment

• Experimental setup– Participants play the role of managers

• Observe private cost C perfectly• Submit budget report R to headquarters• Maximum cost is 6 and minimum cost is 4.

– Economic Incentive (in Lira)• Fixed salary+budget slack:1000+1000*(Report-Cost)

• Prior experimental evidence(Evans et al. 2001)– Reports are partially honest

• Reporting Honesty=1.00- (Report-Cost)/(6-Cost) • Average honesty is 0.45.



Budget Experiment with Peers

• Peer group– Half the subjects are managers of Division A

• Observe own cost and submit budget reports

• Treatment group– Half the subjects are managers of Division B

• Stage 1: observe own division’s cost and submit a report (uninformed report)

• Stage 2: observe Division A’s cost and report, submit a second report ( informed report)


subject to social pressure

subject to social influence


Experimental procedureMotivation Research Questions Experimental Setup Results Conclusions

Period 1Peer 1: see own cost and report(Peer Honesty)

Manager: see own cost and report (Uninformed Honesty)

Manager: see peer 1’s cost & report, and report (Informed Honesty)

Period 2Peer 2: see own cost report(Peer Honesty)

Manager: see own cost and report(Uninformed Honesty)

Within-Period Change

Between-Period Change

Manager: see peer 2’s cost & report, and report (Informed Honesty)


Injunctive Norm Hypotheses 1

• Maintaining Norms Schema: In the absence of social information about other’s reporting behavior, individual reporting honesty is increasing in Maintaining Norms schema.

• Alternative Post-conventional Schema: In the absence of social information about other’s reporting behavior, reporting honesty is increasing with in Post-conventional schema.


Descriptive Norm Hypotheses 2

• Maintaining Norms Schema: Managers’ responses to social information about peers are increasing with the Maintaining Norms schema.

• Alternative Post-conventional Schema: Managers’ responses to social information about peers are unrelated to the Post-conventional schema.


Subjects choices: early


Subject choices: Late


Subject Honesty


Neo-Kohlbergian Classification from DIT2


DIT Schema Scores


Injunctive Norm


Descriptive Norm (between)


Descriptive Norm (within)


Responses to social influence


Findings

• Adherence to injunctive norms increases with the personal significance of the maintaining norms schema.

• Responses to peers vary systematically with neo-Kohlbergian schemas.

• The maintining norms schema leads to strong responses to peer behavior.

• Both “bad apples” and “sterling examples” affect other’s behavior.

• Norms and pay together shape outcomes


Extensions

• What is most salient in forming norms?– the most recent example– the most extreme behavior– the most consistent behavior

• How does an empirical norm evolve?– option backdating– earnings management


Heinz Dilemma

• Heinz's wife was near death, and her only hope was a drug that had been discovered by a pharmacist who was selling it for an exorbitant price. The drug cost $20,000 to make, and the pharmacist was selling it for $200,000. Heinz could only raise $50,000 and insurance wouldn't make up the difference. He offered what he had to the pharmacist, and when his offer was rejected, Heinz said he would pay the rest later. Still the pharmacist refused. In desperation, Heinz considered stealing the drug.

• Would it be wrong for him to do that? Should Heinz have broken into the store to steal the drug for his wife? Why or why not?[


Summary of DIT2 responses


Other stuff


Average Changes in Honesty Conditional on Peer Behavior


Peer Less Honest(Peer Honesty - Uninformed Honesty < -0.1)

Peer More Honest(Peer Honesty - Uninformed Honesty > 0.1)


Personal standards: Reporting honesty without social information


Average honesty of uninformed reports in period 1, by Kohlbergian type


Between-period change in honesty by moral types


Averages computed from responses in periods 1–4, by Kohlbergian type.


Within-period change in honesty by moral types


Averages computed from responses in periods 1–4, by Kohlbergian type.


T3a–Evolution of honesty (within)


T3b–Evolution of honesty (between)


REVISION

• Neo-Kohlbergian approach• Simplify the analysis


Kohlberg’s (1969) Theory of Moral Reasoning

• Pre-conventional: responds to individual rewards and penalties

• Conventional: desire to respect group norms of behavior

• Post-conventional: motivated by personal principles and values


Neo-Kohlbergian Theory: degrees of three type of

behavior• Self interest• Maintaining norms• Principled reasoning


Absent social information, what makes people honest, social norms or moral reasoning?


Changes in Response to Peers:Norms or Principles?


Changes in Response to Peers:Norms or Principles? (late)


T2: Summary Statistics on Honesty Measure

motivationresearch questionsexperimentsresultsconclusions steven huddart & hong qu rotten apples...

Documents

good norms

low moral development

high moral development

group norms of behaviorpost

moral characteristics

reporting behavior

undesirable action

peer pressure