At this point the Financial Accounting Standards Board is probably experiencing what I’d call the Bristol Palin effect. That’s to say that once you’ve been shown to lose your virginity in a very public way, you can talk all you want about the virtue of abstinence but no one’s going to put much credence in what you have to say.
FASB, the outfit that sets financial and accounting rules for companies, including insurers, has always had a reputation for chastity when it came to rule-making. We don’t care how strong the hormonal pressure coming from outside is, FASB seemed to say, we’re not going to even give the appearance of looking like we gave in. We have a reputation to uphold.
That was then.
Now, FASB has to come to terms with the irrefutable fact that you only lose your virginity once.
Years back, FASB approved, after a seemingly endless period of deliberation, the mark-to-market rule that is causing such havoc in the financial markets now, especially in the banking sector, when the value of assets is tanking all over the place.
Mark-to-market means banks and others have to value the assets on their books for what they’re worth now. It’ll come as no surprise to you that these assets-mortgages, mortgage-backed securities and their ilk-have seen their value drop precipitously. Thus, the tremendous hits that financial institutions have had to take on their balance sheets and the spreading, deepening pain as the recession marches on.
Needless to say, when assets seem to see their value growing daily, as they did just a few years ago, mark-to-market is oh so satisfying. Especially if you’re an executive whose bonus is tied to the growing value of those assets and the revenue they produce in spinoffs of one kind or another. It’s just human nature.
But now that the value of assets on banks’ and insurers’ books is plummeting, the mirror image of the formerly positive side of human nature kicks in. Banks don’t like mark-to-market now. And banks have powerful friends in Congress and government.
These powerful friends started to exert some pressure on FASB a few months ago to give in on mark-to-market. For a while, FASB held its ground. After all, it had always taken forever to make up its mind anyway.
Then in the last month or so, the pressure grew really intense as the mayhem on companies’ books ratcheted ever higher. The friends in high places got really pushy. FASB, finally, could not take the heat. It put out a lighter rule for comment, gave the potential commenters a mere couple of weeks (instead of months or years) to do their thing and then, no surprise, eased mark-to-market in a way that gave the banks and other companies much more discretion as to how they could value their assets.
That’s to say the banks now don’t have to assign the current value to assets that are in the toilet. They can use their judgment and if they think the asset will have a higher value in the future, then that is the value they can report.
You don’t have to be a genius to guess how banks are going to start valuing their assets. Of course this asset is worth much more than what it could currently bring in the market, so that’s the value we’re going to assign it.
The problem with this is that the same lack of transparency that got us into this situation would now be applied to the detritus scattered all across the country. How is anyone to really know what the true value of assets on a company’s books is if those assets can be assigned a value based on wishful thinking?
FASB should have stuck to its guns. Sure, there is a lot of pain and still more to come. But at least it was based on some kind of reality, the reality of the market now, not in some future la-la land.
Now when the subject of FASB’s credibility comes up, all it’s going to be is remembrance of things past. And never to be retrieved. Just like you know what…
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Pretty naive to say “they should have stuck to their guns…? To what effect?
Mr. Grantham,
First, let me thank you for being the first person (other than the CEO of my company) to respond to my brand new blog. It’s a thrill.
To your point about why they should have stuck to their guns…the entire article was about FASB’s credibility and how that has been demolished by caving into political pressure. A large part of their authority, it seems to me, comes from being like Caesar’s wife; that is to say, above reproach, and in FASB’s case, not giving into political winds.
Also, if the rule was good when it was promulgated (and this took a long long time) then it should be good now when the need for transparency is even greater. Now we are going to have to trust the valuation of the banks as to what their assets might or should be worth some time in the future. I don’t know about you, but my confidence in their “judgment” has been severely hampered by their judgments that brought us to where we are now.
Lastly, being naive does not necessarily translate into being wrong…just having a different opinion than you.
Steve Piontek
Mr. Piontek, First off I wanted to say I am enjoying your blog and sharing it with friends who share similar interests on Facebook through the link you provide. Second, I never THOROUGHLY understood the mark to market rule of valuation and I think your explanation is excellent so am sharing such as well as in my personal opinion think now FASB should stick to its guns and not let assets be valued at ridiculous to market value in any manner obtusely.
Nice-don’t disagree; I do wonder (hindsight being what it is), where was/is the SEC, FASB, FINRA, ALL the depts of insurance-how in the world were the banks and insurance companies allowed to make the investments they made without holy hell breaking out??
There’s always been a logical fault with FASB’s mark to market rule. Put this in the contect of personal finance:
If you’re a homeowner with 25 years left on a 30-year mmortgage, and you could not sell your house right NOW due to a liquidity crisis in the lending markets, should you be forced to assume your home is worth ZERO? How much more difficult would it be if, also, your mortgage lender could 1)increase your “fixed” rate, or worse, 2) force you into bankruptcy?
I am absolutely for transparency, and there is certainly a need for accurate asset valuation. Mark-to-market, as it has been practiced, is nothing but lunacy, and its negataive results could have been predicted before it ever came into law.