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Poof! Instant Profits!

There has been a lot of talk about the accounting concept of “mark-to-market” during this economic crisis.  Some financial conglomerate defenders in the media have argued that “market-to-market” caused this crisis.  Obviously, this far from the truth but financial conglomerates need to scapegoat something to cover for their complete incompetence.  Financial Accounting Standards Board (FASB), the accounting board responsible for establishing financial accounting standards, was intensely lobbied by the banking industry to change the “market-to-market” rule.  On March 16, FASB issued a change to “mark-to-market” rule that may improve financial conglomerates’ profits instantly.

The change to the “mark-to-market” rule would allow companies to use “significant judgment” in valuing assets and reduce the amount of write downs they must take on “toxic assets” such as mortgage-backed securities.  FASB is expected to vote on this change on April 2.  But if passed, this slight language change may improve Citigroup’s profits by 20% or more.  Are these profits real?

By letting banks use internal models instead of market prices and allowing them to take into account the cash flow of securities, FASB’s change could boost bank industry earnings by 20 percent, Willens said. Companies weighed down by mortgage- backed securities, such as New York-based Citigroup, could cut their losses by 50 percent to 70 percent, said Richard Dietrich, an accounting professor at Ohio State University in Columbus.

Financial conglomerates are crying because “mark-to-market” is forcing them to deal with reality.  They argue that their “toxic assets” are worth something at least the price they paid for them.  But they are wrong.  We wouldn’t be in this crisis if that was true.  Investors and the market for the mortgage-backed securities believe that the price for these toxic assets are worth a lot less than what financial conglomerates think their “toxic assets” are worth.

Financial conglomerates are fighting for their survival.  This change to “mark-to-market” may encourage financial conglomerates to hold on to these “toxic assets” instead of selling them or even worse they will want an unsubstantiated higher price for the toxic assets.  Their lobbyists may have succeed in getting the change they wanted to “mark-to-market”.  But it will do nothing to improve the lack of confidence and trust that so prevalent in our financial markets.  This may only serve to prolong this crisis and require even more taxpayer money later.

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