Motivation
Research Questions
Experiments
Results
Conclusions
Rotten apples and sterling examples: Moral reasoning and
peer influences on honesty in budget reporting
Erasmus University March 13, 2014
STEVEN HUDDART & HONG QU
Motivation
Research Questions
Experiments
Results
Conclusions
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.
Motivation
Research Questions
Experiments
Results
Conclusions
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.
Motivation
Research Questions
Experiments
Results
Conclusions
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
Motivation
Research Questions
Experiments
Results
Conclusions
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
Motivation
Research Questions
Experiments
Results
Conclusions
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.
Motivation
Research Questions
Experiments
Results
Conclusions
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
Motivation
Research Questions
Experiments
Results
Conclusions
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)
Motivation
Research Questions
Experiments
Results
Conclusions
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
Motivation
Research Questions
Experiments
Results
Conclusions
Structure
Norm of behavior, Nai = (1 – li)Pi – liS,
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
li  [0,1) represents extent to which agent is
conventional
Motivation
Research Questions
Experiments
Results
Conclusions
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, li, 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
Motivation
Research Questions
Experiments
Results
Conclusions
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
Motivation
Research
Research Questions
Questions
Experimental
Experiments
Setup
Results
Conclusions
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
Experiments
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.
Motivation
Research Questions
Experimental
Experiments
Setup
Results
Conclusions
Budget Experiment with Peers
subject to social pressure
• Peer group
– Half the subjects are managers of Division A
• Observe own cost and submit budget reports
subject to social influence
• 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)
Motivation
Research Questions
Experimental
Experiments
Setup
Results
Conclusions
Experimental procedure
Period 1
Peer 1: see own cost
and report
(Peer Honesty)
Manager: see own cost
and report
(Uninformed Honesty)
Within-Period
Change
Manager: see peer 1’s
cost & report, and report
(Informed Honesty)
Period 2
Peer 2: see own cost
report
(Peer Honesty)
Manager: see own cost
and report
(Uninformed Honesty)
Manager: see peer 2’s
cost & report, and report
(Informed Honesty)
Between-Period
Change
Motivation
Research Questions
Experiments
Results
Conclusions
Injunctive Norm Hypotheses 1a & 1b
• Maintaining Norms Schema: In the absence of
social information about other’s reporting
behavior, individual reporting honesty is
increasing in Maintaining Norms schema.
• Post-conventional Schema: In the absence of
social information about other’s reporting
behavior, reporting honesty is increasing with
in Post-conventional schema.
Motivation
Research Questions
Experiments
Results
Conclusions
Descriptive Norm Hypotheses 2a & 2b
• Maintaining Norms Schema: Managers’
responses to social information about peers
are increasing with the Maintaining Norms
schema.
• Post-conventional Schema: Managers’
responses to social information about peers
are unrelated to the Post-conventional
schema.
Motivation
Research Questions
Experiments
Results
Subjects choices: early
Conclusions
Motivation
Research Questions
Experiments
Results
Subject choices: Late
Conclusions
Motivation
Research Questions
Experiments
Results
Subject Honesty
Conclusions
Motivation
Research Questions
Experiments
Results
Conclusions
Neo-Kohlbergian Classification
from DIT2
Motivation
Research Questions
Experiments
Results
DIT Schema Scores
Conclusions
Motivation
Research Questions
Experiments
Results
Injunctive Norm
Conclusions
Motivation
Research Questions
Experiments
Results
Conclusions
Descriptive Norm (between)
Motivation
Research Questions
Experiments
Results
Descriptive Norm (within)
Conclusions
Motivation
Research Questions
Experiments
Results
Conclusions
Responses to social influence
Motivation
Research Questions
Experiments
Results
Conclusions
Findings
• Adherence to injunctive norms increases with the
personal significance of the maintaining norms
schema.
• Responses to peers vary systematically with neoKohlbergian 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
Motivation
Research Questions
Experiments
Results
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
Conclusions
Motivation
Research Questions
Experiments
Results
Conclusions
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?[
Motivation
Research Questions
Experiments
Results
Conclusions
Summary of DIT2 responses
Motivation
Research Questions
Experiments
Old stuff
Results
Conclusions
Motivation
Research Questions
Experimental
Experiments
Setup
Results
Results
Conclusions
Average Changes in Honesty Conditional on Peer Behavior
Peer More Honest
(Peer Honesty - Uninformed Honesty > 0.1)
Peer Less Honest
(Peer Honesty - Uninformed Honesty < -0.1)
Motivation
Research Questions
Experimental
Experiments
Setup
Results
Results
Conclusions
Personal standards: Reporting honesty without social information
Average honesty of uninformed reports in period 1, by Kohlbergian type
Motivation
Research Questions
Experimental
Experiments
Setup
Results
Results
Conclusions
Between-period change in honesty by moral types
Averages computed from responses in periods 1–4, by Kohlbergian type.
Motivation
Research Questions
Experimental
Experiments
Setup
Results
Results
Conclusions
Within-period change in honesty by moral types
Averages computed from responses in periods 1–4, by Kohlbergian type.
Motivation
Research Questions
Experiments
Results
Conclusions
T3a–Evolution of honesty (within)
Motivation
Research Questions
Experiments
Results
Conclusions
T3b–Evolution of honesty
(between)
Motivation
Research Questions
Experiments
REVISION
• Neo-Kohlbergian approach
• Simplify the analysis
Results
Conclusions
Motivation
Research Questions
Experiments
Results
Conclusions
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
Motivation
Research Questions
Experiments
Results
Conclusions
Neo-Kohlbergian Theory: degrees of
three type of behavior
• Self interest
• Maintaining norms
• Principled reasoning
Motivation
Research Questions
Experiments
Results
Conclusions
Absent social information, what makes people
honest, social norms or moral reasoning?
Motivation
Research Questions
Experiments
Results
Conclusions
Changes in Response to Peers:
Norms or Principles?
Motivation
Research Questions
Experiments
Results
Conclusions
Changes in Response to Peers:
Norms or Principles? (late)
Motivation
Research Questions
Experiments
Results
Conclusions
T2: Summary Statistics on
Honesty Measure