Signaling Government Financial Reporting Quality to Credit Analysts

The quality of governmental financial reporting and auditing is of continuing concern to oversight bodies and to those interested in the financial accountability of governments. While governments may have operational incentives to improve financial reporting, external incentives depend on external users' ability to distinguish cities with better reporting practices from those with inferior systems. Two methods that cities with better systems may use to distinguish themselves are the GFOA's Certificate of Excellence for Financial Reporting and through the reputation of the audit firm. This article examines whether the degree of reliance that bond raters place on accounting data is influenced by the Certificate and by the type of auditor. In addition, since inadequate fees have been cited as a possible cause of substandard audits, we examine the trend in audit fees for cities for the period 1985–1989. The findings suggest that the use of a Big Eight audit firm does increase the reliance placed on cities' financial statement numbers but there is only weak evidence that the Certificate has a similar effect. In addition we find evidence of a significant decline in audit fees for the period 1985–1989.