Who’s Winning The Fair Value Debate – Might Makes Right

“Sir David Tweedie, chairman of the IASB, acknowledged that the body needs more protection from political manipulation before it can claim that it has become the global gold standard.

Tweedie said he nearly resigned over the rule change demanded by European politicians. “I was so frustrated by the whole thing,” he said. “All the time when we are trying to build a global accounting system, and we are pretty close to it, and then suddenly out of left field this thing appears. It’s just absolutely exasperating.”

U.S. standards have been set by the Financial Accounting Standards Board since 1973. “Right now, there is no credibility,” said Robert Denham, chairman of the Financial Accounting Foundation, which oversees the FASB. “If we are going to have global accounting standards, my view is that is not going to work if the IASB is going to be jerked around by the European Commission. That is the very real risk that is posed by the EC coercion and the IASB’s response.”

The episode exposes how small, incremental changes in arcane accounting rules can affect billions of dollars in market value and corporate profitability. In turn, the money at risk raises the political stakes, as desperate companies begin to lobby political leaders to insist on changes that normally would come about only after a careful discussion and evaluation by experts.

…the financial crisis demonstrated how vulnerable the fledgling system is to political pressure.

On Oct. 8, the leaders of France, Germany, Italy, Britain and the European Commission met in Paris to discuss the worldwide economic crisis. They issued a statement saying they were working together “within the European Union and with our international partners” to ensure the safety and stability of the worldwide banking system. But buried within the statement was a sentence warning that European banks should not face a competitive disadvantage with U.S. banks “in terms of accounting rules and their interpretation.” The leaders added ominously: “This issue must be resolved by the end of the month.”

At issue is an accounting standard known as fair value, or mark to market, in which companies disclose how much an asset could fetch on the open market. With the values of assets plummeting, banks were suddenly stuck with paper losses on assets they could no longer sell. With some critics saying the provision was forcing banks to take large write-downs, the SEC and FASB issued guidance in late September that companies could use their own internal models for assigning a value to assets — in essence, a nod to the principles-based international rules.

But European officials smelled a rat. Under rare circumstances, U.S. companies are permitted to reclassify assets they were actively seeking to trade into long-term “loans,” using an accounting rule that was considered weaker than the international equivalent. The international rules did not permit such transfers, and European officials feared that the new guidance was handing the Americans a competitive advantage.

Shortly after the European leaders’ statement, Commissioner Charlie McCreevy of the European Commission, who was in charge of the European Union internal market, signaled he would introduce legal changes, overriding the international rules. McCreevy decided to exploit a loophole in the system — that all accounting rules must be adopted as legislation by the E.U. So McCreevy was going to force the changes on the IASB by threatening to remove — or carve out — the existing regulation, leaving nothing in its place.

“We made it clear what the IASB should accept,” said Oliver Drewes, a spokesman for McCreevy. “There is always the right, and threat and the pressure, that one could go for a carve-out for European companies.”

Tweedie said the rulemaking body had only four days to act before McCreevy pushed through a change in the law, even though accounting changes of this magnitude would normally take months to achieve.

It’s interesting to observe that the Europeans believe that the process is so pure and non-politicized in the US. The article quoted, written by a US journalist, in the Washington Post no less, never questions this contention.  And yet, we have seen the same kind of politicizing of accounting standards, the same kind of bending of laws and regulations intended to protect the investor, and some deplorably lax regulatory oversight of folks who were fleecing even sophisticated investors of billions.

“If the crippled banking system is to be brought back to good health there has to be a fundamental rethink about where power really lays in the setting of and upholding of standards. It cannot be acceptable under any regime for private agencies – the Fed is NOT a government body – to dictate what is in what amounts to its best, private interests alone. It is a perpetuation of this ludicrous and dangerous state of affairs that faces the incoming US president which has a knock on effect around the world.”

“…While some read the Chairman’s remarks as candid and refreshing, I read them differently. I took them as not taking responsibility for the SEC’s failures. In seeming to throw the Staff under the bus – on his way out of the agency’s doors no less – the Chairman violates the “tone at the top” mantra as well as the one of “accountability” that the SEC is supposed to drum into our corporate leaders.

From the beginning, I didn’t like it that a sitting Congressman was appointed as the head of an independent agency. The SEC was already being “politicized” before Cox arrived, but this trend accelerated on his watch. And some say that Cox cared more about how the media perceived him than how the Staff performed (one of his responses to the credit crunch was hiring two more PR guys). It has been written that he fought budget increases for the SEC (albeit with some urging from Commissioner Atkins), even when those in Congress responsible for the SEC’s oversight urged him to seek more resources. Anyway, the SEC is in dire straights these days and a new Chair couldn’t come at a better time.”

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Unlike the U.S. board, the international board has no regulator like the SEC to help shield it from political pressure. So the IASB was at the mercy of the European Commission.

“There had been pressure on him, I suspect, from some of the European leaders,” Tweedie said, referring to McCreevy. “It was quite clear it was going to be pushed through and that would have been a disaster. We were faced with this hole being blown in the European accounting, and we just wanted to step in and control it.” “