(FORTUNE Magazine) – For an obscure financial instrument, the stock option has come to bear a heavy burden of hope and faith. In Silicon Valley, where options are ladled out to programmers and marketing VPs and secretaries alike, they're seen as a driving force behind the tech boom. Elsewhere, huge options grants get credit for transforming CEOs into shareholder-value zealots. The belief in options' magical power is so strong that six years ago, when the people who draw up Generally Accepted Accounting Principles tried to fix the accounting lapse that makes options so attractive to corporations, they were forced to retreat in the face of charges that they were endangering American capitalism.

The question of whether stock options truly are leading us to earthly paradise is unanswerable. But the widely held corollary belief that bad accounting is a good thing for the U.S. economy is plain nutty, a point that deserves harping upon as the Financial Accounting Standards Board ever so timidly revisits options accounting this year.

First, the basics: An option is the right to buy (or sell) something in the future. The options that companies give employees usually confer the right to buy the company's stock in the future at the stock's market price today. Such an option is worth something--a truth demonstrated on trading floors around the country, where in early July, with America Online's stock at $120, you had to pay $42 for an option (expiring in 2001) to buy a share of America Online for $120. But this truth is denied in the earnings statements of AOL and most every other company that gives stock options to employees. There, options are free.

What's to blame is the clunky accounting standard for options, drawn up back in 1972, when nobody but a few finance professors knew how to value the likes of the AOL option above. In 1993, the FASB proposed a standard that used mathematical options-pricing models to estimate the value of the options that corporations give out--and subtracted that value from earnings. That's where the whole endangering capitalism thing came in.

Now the accounting board has returned to the fray, with a new "interpretation" of the 1972 standard: options granted to outside directors must be charged against earnings, as must options that a company resets to a lower price when its stock drops. These changes do seem in keeping with the wording of the 1972 standard, and because directors' options grants aren't very big and options repricing isn't very respectable, the new interpretation will probably stick. But the resulting accounting for options is even less logical than before. Why are options given to a director worth something while options given to an employee aren't? Why should a company that reprices its employees' options be forced to expense them, when that same company could fire its workers and grant new, lower-priced options to their replacements at no cost?

Those inconsistencies matter because when the accountants get things wrong--that is, when accounting rules don't reflect economic reality--there's often hell to pay. (See "Lies, Damned Lies, and Managed Earnings.") This point was best made by savings and loans, which were hemorrhaging money in the early 1980s but because of flawed accounting rules reported profits for years until the roof fell in. It's hard to sketch quite such a disaster scenario for options, but it does seem obvious that with options' real cost hidden, companies hand out more than they should and are too stingy with other compensation--like performance bonuses or outright stock grants--that might do a better job of aligning the interests of employees with those of shareholders. Also, the new repricing rule will have the perverse effect of favoring the Microsofts of the world (who never need to reprice) at the expense of their struggling competitors.

That is where bad accounting gets us. Options have value, and corporate earnings should reflect that. And if they really are such great motivators, companies will keep ladling them out.

--Justin Fox