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Thursday, April 02, 2009

A Mark-to-Market Boost

Mark-to-market regulation under the Financial Accounting Standards Board Rule 157 implemented in 2007 played a big role in sparking the credit-economic mess we’re in right now.

Mark-to-market accounting regulations mandate the revaluation of assets when value either is not known or reflects short-term fluctuations for assets that can be held long term, while also failing to account for the income being produced by assets. The regulations mandating mark-to-market accounting meant that depressed housing values generated lower asset values on paper than in reality. The required “write downs” pushed firms towards or into insolvency.

By the way, many saw the problems that would come with FASB 157. For example, Stephen Taub, writing for on November 7, 2007, reported the following:

If you think banks are writing off large amounts of assets now, wait until new accounting rules take effect this month.

The Royal Bank of Scotland Group estimates that U.S. banks and brokers, already under massive losses caused by the collapse in the subprime credit market, potentially face hundreds of billions of dollars in write-offs because of what are called Level 3 accounting rules, according to Bloomberg.

The U.S. Financial Accounting Standards Board Rule 157, which is effective for fiscal years that begin after November 15, 2007, will make it harder for companies to avoid putting market prices on securities considered hardest to value, known as Level 3 assets, the wire service reported.

''The heat is on and it is inevitable that more players will have to revalue at least a decent portion'' of assets they currently value using ''mark-to-make believe,'' Bob Janjuah, Royal Bank's chief credit strategist, reportedly wrote in a note published Wednesday.

On Thursday, the Financial Accounting Standards Board announced revisions to mark-to-market regulations. The Wall Street Journal reported:

Accounting rule makers approved a plan Thursday to ease their controversial guidelines on "mark-to-market" accounting, allowing companies more leeway in valuing their investments. The Financial Accounting Standards Board revised the rules to allow companies to use their judgment to a greater extent in determining the "fair value" of their assets. The board also made it easier for companies to avoid having to take impairment charges against earnings when they suffer losses on their investments.

The move comes on the heels of a sharp push by banks and their supporters in Congress to soften the mark-to-market rules, which require companies to peg the value of their investments to the ups and downs of the market. The banks have contend that during the current financial crisis, when many markets are frozen or not functioning smoothly, the rules have unfairly pushed those valuations lower and forced them to take big losses on the basis of market fluctuations that are temporary.

This is a small break – a glimmer of light – in the policy storm that has been battering markets, investors and businesses. Perhaps it’s no coincidence that the Dow Jones Industrials closed up 216.48 points today.

Raymond J. Keating
Chief Economist
Small Business & Entrepreneurship Council

1 comment:

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