Day: January 3, 2009

The Importance of Accounting

Or, as I thought of titling this post, SEC does something useful!

Accounting can seem a dreadfully boring subject to some, but it gets its moment in the sun whenever there is a financial crisis . . . remember Enron? This time around is no exception. During the panic of September, some people were calling for a suspension of mark-to-market accounting, and while they did not get what they wanted, they succeeded in inserting a provision in the first big bailout bill to study the relationship between mark-to-market accounting and the financial crisis.

A brief, high-level explanation of the dispute: Under mark-to-market accounting, assets on your balance sheet have to be valued at their current market values. So if you have $10 million worth of stock in Microsoft, but that stock falls to $5 million, you have to write it down on your balance sheet and take a $5 million loss on your income statement. The criticism was that mark-to-market was forcing financial institutions to take severe writedowns on assets whose market values had fallen precipitously, not because of their inherent value, but because nobody was buying these assets – think CDOs – and that banks were becoming insolvent because of an accounting technicality. Under this view, banks should be able to keep these assets at their “true” long-term values, instead of having to take writedowns due to short-term market fluctuations.

I am instinctively skeptical of this view, and in favor of mark-to-market accounting, because I believe that while market valuations may not be perfect, they are generally better than the alternative, which is allowing companies to estimate the values themselves, subject only to their auditors and regulators. But the issue is considerably  more complicated than either the simple criticism or my simple defense would imply.

Earlier this week, the SEC released its study of mark-to-market accounting as required by the bailout bill. Their conclusions are simple:

fair value [mark-to-market, as will be explained] accounting did not appear to play a meaningful role in bank failures occurring during 2008. Rather, bank failures in the U.S. appeared to be the result of growing probable credit losses, concerns about asset quality, and, in certain cases, eroding lender and investor confidence.

Continue reading “The Importance of Accounting” →

The G20: Gordon Brown’s Opportunity

Prime Minister Gordon Brown has been trying to drum up support for some form of Bretton Woods Two, i.e., a big rethink regarding how the global economy is governed.  So far, little support has materialized for any kind of sweeping approach to these issues.

Still, the chairmanship of the G20 affords him a great opportunity to make progress in other ways.  (The G20 website still needs updating, as does the group’s Wikipedia entry; the key point is that this is now a forum for heads of government, rather than for ministers of finance/central bank governors.  The chair was due to rotate to the UK in any case; the fact that it falls to Mr Brown in person is an amazing stroke of luck for him.)

The G20 focus in November, as you may recall, was largely on re-regulation and it remains to be seen how much of that agenda will be implemented by the next meeting on April 2nd.  But that meeting was substantially under French auspices, despite taking place in Washington.  Mr Sarkozy’s staff were jubiliant by the meeting’s end: “we have put the bell on the American cat” was the most memorable quote.  The next meeting will take place in Britain, with a new US President at the table, and looks likely to be a much more serious affair. Continue reading “The G20: Gordon Brown’s Opportunity” →