Accounting discretion of banks during a financial crisis

Author/Editor:

Luc Laeven ; Harry Huizinga

Publication Date:

September 1, 2009

Electronic Access:

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Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

This paper shows that banks use accounting discretion to overstate the value of distressed assets. Banks' balance sheets overvalue real estate-related assets compared to the market value of these assets, especially during the U.S. mortgage crisis. Share prices of banks with large exposure to mortgage-backed securities also react favorably to recent changes in accounting rules that relax fair-value accounting, and these banks provision less for bad loans. Furthermore, distressed banks use discretion in the classification of mortgage-backed securities to inflate their books. Our results indicate that banks' balance sheets offer a distorted view of the financial health of the banks.

Series:

Working Paper No. 2009/207

Subject:

Asset valuation Banking Loan loss provisions Loans Securities

English

Publication Date:

September 1, 2009

ISBN/ISSN:

9781451873542/1018-5941

Stock No:

WPIEA2009207

Pages:

41

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