Debate to ease fair value accounting intensifies
16 October 2008
Asia Ed1 – 17
It will ease the strain on banks’ balance sheets, won’t cost the taxpayer a penny and is quick and relatively painless, apart from a handful of upset accountants.
The answer: relax fair value accounting, where companies have to mark most of their financial holdings to market prices.
Throughout the credit crunch this debate has grown, spilling over from academia into the banking world. In the current convulsions it has stepped up a gear and gone political.
Roughly, the debate lines up banks alongside politicians, particularly French and Italian, calling for some easing of fair value. On the other side are most regulators, accountants and investors. Gordon Brown, the UK prime minister, is also in this category.
Yesterday, the reformers got at least some of what they wanted, with the European Union poised to ratify changes made by the International Accounting Standards Board designed to even up its standards with US GAAP (generally accepted accounting principles) and in effect constituting an easing of its rules. Those who want the changes claim that fair value has undermined banks’ balance sheets by forcing them to report assets at current weak market prices even though the banks have no intention of selling them and in fact expect values to recover. Supporters of fair value claim that a balance sheet should simply reflect current economic reality, however nasty that is.
This week’s alterations will allow some more reclassification of assets from fair value to “held to maturity”, a category where gains are spread steadily over the lifetime of the asset and values are only written down if they are permanently impaired. But the banking lobby does not yet seem satisfied. Groups in both Europe and the US have smelled blood and are pushing for even more.
European industry lobbying for the changes made this week was fierce, with hints that politicians should end the IASB’s power in favour of some regional body.
In the US, the American Bankers Association called on the Securities and Exchange Commission to overrule the US accounting standards setter, claiming that the group “still refuses to recognise the realities of the current situation” and describing the current markets as “distressed”.
What we have here is a number of banks protesting because they do not like the answer. Both US and international accounting standards already include leeway for illiquid markets and allow for the use of other factors beside current market price.
This very issue was addressed by the IASB last month, when an expert advisory panel produced guidance on valuations in illiquid markets with reference to the credit crunch. However, the group, which included big banks and insurers alongside auditors and regulators, produced a definition of “distressed” or “firesale” which is so narrow as to almost never apply.
So, for “distressed” in banking lobby parlance read “depressed” markets and be wary of their misuse of technical terms. No-one can disagree the latter is true, but it doesn’t have the same get-out-of-jail-free status with the auditors as “distressed”.
The banking lobby is also confusing the role of accounts. These should simply be a true and fair record of management’s stewardship of the business. How the owners, regulators and tax authorities that read accounts choose to interpret them is their choice. Complaining about what the accounts show, when we’re talking about a system supported by such users of accounts as investors and regulators, is akin to blaming a torch for shining a light on the mess in your cupboard.