Republicans’ Thursday testimony on mark-to-market accounting has emerged.
You can read the whole thing here, but we found this bit of particular interest:
Mark-to-market (“fair value”) is a major cause of the current financial disaster. It has accelerated and deepened the decline of asset values. It has crippled institutions that would have survived under a more honest and realistic accounting system.
Ironically, the flaws in mark-to-market are not new.
Since the 1930s, accountants and bank regulators have recognized the inherent weaknesses of mark-to-market accounting. Dating back to 1938, the Federal Reserve recommended that accounting principles should be revised. President Franklin Delano Roosevelt [FDR] heeded their advice, and quickly moved to repeal mark-to-market.
Despite the inherent weakness and procyclicality of mark-to-market accounting, the Financial Accounting Standards Board (FASB) capriciously reinstated mark-to-market in 2007 in effort to create more transparency. Under Financial Accounting Standard (FAS) No. 157, financial analysts are required to value an asset at the current mark rate even when there is no inherent market value. …
Mark Sunshine of First Capital has a pretty good summary of the FDR issue, citing an opinion piece by Forbes’ Brian Westbury and Robert Stein:
… According to Brian Wesbury and Robert Stein mark-to-market accounting was the law of the land for most of the Great Depression until it was outlawed by FDR in 1938. Wesbury and Stein report that the rational for mark-to-market accounting in the 1930s seems similar to today’s argument for the rule; the need for greater price transparency based upon the efficient markets hypothesis in the banking sector. FDR rejected the arguments of the efficient markets crowd because he thought that mark-to-market accounting contributed to the Great Depression. For approximately 70 years after FDR’s decision banks operated without mark-to-market accounting and the economy didn’t have the threat of another depression. Years later Milton Friedman wrote that mark-to-market accounting was responsible for the avoidable failure of many banks in the 1930s. Maybe it is just coincidence but immediately after mark-to-market accounting was restored in 2007 the banking sector started into a death spiral. …
The not-so-subtle hint in all this is that the US should do what FDR did in the 1930s and repeal the mark-to-market rule. Of course, in financial parlance, past performance is not necessarily indicative of future results — but the comparison is certainly food for thought. More importantly, it’s an analogy that, rightly or wrongly, is likely to have a great deal of political resonance in the hallowed halls of Washington DC and amongst voting Americans.
Related links:
Bankers say rules are the problem – Floyd Norris, NYT
Solution to credit crunch found! – FT Alphaville
First step towards mark-to-market suspension? – FT Alphaville