Credit Risk and IFRS : The Case of Credit Default Swaps

Theory predicts that the accounting information transparency affects credit spreads. Given that one of the putative benefits of International Financial Reporting Standards (IFRS) is transparency of accounting information, this study evaluates the impact of IFRS on the pricing of credit spreads in the over-the-counter Credit Default Swap (CDS) market. Using a difference in differences methodology with a matched IFRS-US sample, we find evidence that the CDS-earnings relation is more pronounced in countries that adopted IFRS in the post adoption period. Given that potential IFRSinduced transparency need not have affected all countries in the same manner, we further examine the impact of the institutional factors that have been shown to affect the quality of accounting information on the CDS-earnings relation. On one hand, we find that earnings are equally informative about credit risk in the pre and post adoption periods for common law countries, countries with strong legal enforcement, countries with low earnings management, countries with low differences between local GAAP and IFRS, and countries with high conditional conservatism, indicative of no change in the CDSearnings relation. On the other hand, we document that the adoption of IFRS increased the credit informativeness of earnings in code law countries, countries with larger differences between local GAAP and IFRS and countries with low conditional conservatism. Overall, our results suggest that the impact of IFRS on the CDS-earnings relation is highly contextual.