Accounting for banks

I wrote a short piece in yesterday’s Sunday Independent that illustrates why bank regulators must think beyond International Financial Reporting Standards in judging the health of the banking system. The link is here.

6 thoughts on “Accounting for banks”

  1. Alan,
    I read and enjoyed your piece in Sunday’s paper.
    It strikes me that describing adjustments to balance sheets verbally gets confusing! It would be useful to illustrate the key accountancy issues using the sort of stylized balance sheets that we inflict on students in Econ 101. There’s a lot of talk of taking the toxic (sorry, troubled) assets off existing balance sheets and putting them into a bad (sorry, aggregator) bank. A simple example to show how the liabilities of the former and the assets of the latter are adjusted would be enlightening!

  2. Alan, v. good article.

    one distinction i would be interested in exploring in futher detail is the distinction between reported bank capital positions under IAS vs the regulatory bank capital position under Basle II, and how different the two positions are. My understanding is (and I stand to be corrected on this) is that the Basle risk weightings do make some attempts towards making provision more counter cyclical and therefore are a better guide to a banks actual exposure. This is the reason why the UK FSA’s relaxation of Basle RWA rules last week is such a significant move – effectively allowing insolvent banks continue to operate due by smoothing cyclical effects.

    I believe that banks will be required from the next set of results to report how much of their provisions provisions are Basle II compliant. I think the international markets will take much heed to these figures as a guide to the adequacy of banks provisioning.

  3. Enrique: Bank regulators usually take the accounting rules as a starting point and then they may do some adjustments in order to define regulatory capital for Basle 2 purposes. All EU countries now use IAS/IFRS for financial reporting purposes. The bank regulators in EU countries probably use IAS as a starting point and may then tweek these rules in order to define regulatory capital. Sorry, I have no idea how the Irish regulator or the UK regulator does this.

    In the US every time the Financial Accounting Standard Board (FASB) comes out with a new change in US accounting rules the Fed/FDIC then decides how they will treat this new accounting rule for regulator capital purposes. So, you get differences between shareholders equity under US GAAP and regulatory capital the bank regulators accept. A law passed after the S&L crisis in the 1980s (can’t remember the name of bill) requires that the rules for calculating bank regulatory capital are at least as conservative as US GAAP (although it is debatable how this work in practice).

  4. 1. No doubt I am living in a bubble, but I have a continuing problem with this “Markets and economists beg to differ” meme which is regularly counterposed to reports from those who have seen the “hard” information which is not available to the “markets and economists”. Of course, it would be preferable for all to be able to see the “hard” information, but absent that is it really justified to continue preferring the “soft” information without qualification ?

    2. Are bankers not permitted to make general loan loss provisions – that is, provisions against the loan book as a whole, rather than against specific loans – any more ?

    Even if they cannot, there is nothing to stop them from saying that they would if they were permitted to do so, thus conveying the information to their investors, however imperfectly.

  5. Fergus: it is unlikely that there are some real high quality objective information (hard facts) in these institutions. Assessing the vair value of these commercial property assets is fraught with difficulty. Granted, bank management will have some proprietory information about the quality of their loan book that they are not making public, but that is not to say that management has good high quality information on the quality of these assets (there is information asymmetry, but enourmous uncertainty).

    It seems Irish bankers have interpreted the IFRS accounting rules as sayign they cannot make general provisions against their entire loan book. This is a reasonable reading of IAS 39. But, you can have specific provisions agains an entire asset class–such as all your commercial property lending. Given the widespread evidence of problems with property lending in Ireland, there is nothing in the accounting rules preventing them from making such provisions–if managment choose to do so.

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