Problem Solved, The Banksters Get To Lie Again!

by dday

Yesterday, the Financial Accounting Standards Board approved a change to mark-to-market accounting that will allow banks to pretend they’re still solvent, which apparently will end the crisis in their minds.

A once-obscure accounting rule that infuriated banks, who blamed it for worsening the financial crisis, was changed Thursday to give banks more discretion in reporting the value of mortgage securities.

The change seems likely to allow banks to report higher profits by assuming that the securities are worth more than anyone is now willing to pay for them. But critics objected that the change could further damage the credibility of financial institutions by enabling them to avoid recognizing losses from bad loans they have made.

Critics also said that since the rules were changed under heavy political pressure, the move compromised the independence of the organization that did it, the Financial Accounting Standards Board.

During the financial crisis, the market prices of many securities, particularly those backed by subprime home mortgages, have plunged to fractions of their original prices. That has forced banks to report hundreds of billions of dollars in losses over the last year, because some of those securities must be reported at market value each three months, with the bank showing a profit or loss based on the change.

Bankers bitterly complained that the current market prices were the result of distressed sales and that they should be allowed to ignore those prices and value the securities instead at their value in a normal market. At first FASB, pronounced FAS-bee, resisted making changes, but that changed within a few days of a Congressional hearing at which legislators from both parties demanded the board act.

Shorter banking industry: We should be able to price worthless crap at whatever dollar amount we want! We want a goddamn pony!

What will happen is that the banks will put this into their accounting statements and puff up their earnings reports for the first quarter, then making jazz hands at the market and singing “Let’s put on another show, kids!” It won’t work this time, as James Kwak explains.

Investors and regulators are not idiots. They know what the accounting rules are. If banks claim they were forced to mark their assets down to “fire-sale” prices, investors can look at the facts themselves and apply any upward corrections they want. Now that banks will be able to mark their assets up to prices based solely on their own models, investors will make the downward corrections they want. It’s a little like what happened when companies were forced to account for stock option compensation as expenses; nothing happened to stock prices, because anyone who wanted to could already read the footnotes and do the calculations himself.

However, the situation is not symmetrical, and the change is bad for two reasons. First, fair market value (”mark to market”) has the benefit of being a clear rule that everyone has to conform to. So from the investor’s perspective, you have one fact to go on. The new rule makes asset prices dependent on banks’ internal judgment, and each bank may apply different criteria. So from the investor’s perspective, now you have zero facts to go on. It’s as if auto companies were allowed to replace EPA fuel efficiency estimates with their own estimates using their own tests. We all know the EPA estimates are not realistic, but we can find out exactly how they were obtained and make whatever adjustments we want. If each auto company can use its own criteria, then we have no information at all.

Second, this takes away the bank’s incentive to disclose information. Under the old rule, if a bank had to show market prices but thought they were unfairly low, it would have to show some evidence in order to convince investors of its position. Under the new rule, a bank can simply report the results of its internal models and has no incentive to provide any more information.

So what we get is less information and more uncertainty. That was all reason number one.

Read the whole thing. Didn’t bad accounting standards get us INTO this mess, in some ways (I’m referring to Enron and the various scandals of 2001-2002)?

The banksters want to live in an alternate reality, and will be tempted to raise less capital because of the magic numbers on their books, leaving them even more vulnerable than before. You know it’s a problem when the SEC Commissioners under Bill Clinton AND George Bush denounce it.

The vote drew condemnation from an organization called the Investors Working Group, and the two former S.E.C. chairman who lead it — William H. Donaldson, appointed by the second President Bush, and Arthur Levitt Jr., who served in the Clinton administration.

“In order to create high-quality accounting standards, it is critical that the process be independent and free from political pressure,” the group said in a statement. “This will ensure that such standards are neutral and faithfully represent economic reality. To the extent that these new FASB proposals reduce the free flow of transparent and reliable financial information, they undermine investor interests and weaken their ability to make sound investment decisions.”

This is absurd. And Kevin G. Hall notes that this is EXACTLY what happened during the S&L crisis.

“Why should all assets be treated as if they’re really for sale?” asked Bert Ely, a banking expert who gained wide recognition during the savings and loan crisis of the late 1980s.

During the S&L crisis, government regulators initially eased federal accounting rules for troubled S&Ls, which hid their negative worth and allowed them to make even worse decisions that led to their collapse and an expensive federal rescue.

Could it happen again?

“That concern does come up with this situation,” Ely said. “At what point in time do we move from improved accounting to manipulation?”

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