Mark-to-Market Accounting: Shooting Ourselves in the Foot
The author was president of the Dallas Federal Reserve Bank, 1991-2005
...Suspending Mark-to-Market. Mark-to-market had its critics early on. Federal Reserve Board Chairman Alan Greenspan wrote a 4-page, single-spaced letter to the SEC in November 1990, urging them not to apply mark-to-market to commercial banks because their business model is not that of a trader, but involves holding assets on their balance sheet. In 2002, Treasury Secretary Nicolas Brady wrote a similar letter to the SEC.
Earlier this year, Paul Volcker, speaking as chairman of the "Group of 30," a private nonprofit composed of senior representatives from the private and public sectors and academia, released their study of the financial crisis. Recommendation No. 12 on Fair Value Accounting says:
a. Fair value accounting principles and standards should be reevaluated with a view to developing more realistic guidelines for dealing with less liquid instruments in distressed markets.
Even the International Accounting Standards Board, the international equivalent of the FASB, allowed European banks to relabel their MBSs as "held to maturity" in 2008 to avoid marking them to market. As a result of this change, says Wallison, Deutsche Bank went from a projected loss to a profit, and its stock price increased by 18 percent.
Conclusion. The most serious example of doing the right thing at the wrong time is overly strict adherence to mark-to-market accounting rules. Fortunately, there is historical and international precedent for suspending and reworking these rules. Congress and the SEC should consider doing so until the economy recovers.
HT: David Goldman at the Asia Times' Inner Workings blog who writes
...He’s completely correct, and the Financial Accounting Standards Board is rushing its deliberations on the matter to rule by April 2, in time for banks to restate their first quarter profits. The FASB might decide against suspending mark to market, but that doesn’t seem likely. As McTeer observes, it’s the cheap way to do it. I’ve been arguing for this for months.
This will allow banks to write up enough assets to then re-sell to private equity at lower prices — everyone wins.
I expect banks to outperform expectations for the first quarter by construction, that is, by clawing back some of the exaggerated mark to market losses of the past several quarters. If I am correct, banks stocks should rally on earnings news. There seem to be enough people out there who believe Krugman who have not yet given up on the thought that bank equity will go to zero.
Mr. Goldman was global head of fixed-income research for Banc of America Securities and global head of credit strategy at Credit Suisse.