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The Effect of Fair vs. Book Value Accounting on the Behavior of Banks

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  • Roland Strausz

    ()
    (Free University of Berlin, Department of Economics)

  • Katrin Burkhardt

Abstract

This paper studies the effect of book versus fair value accounting on a bank's (re)investment behavior, risk of default, investment value, and the need for regulation. Adopting the wide--spread view that fair value accounting reduces the degree of asymmetric information, it shows that fair value accounting increases liquidity. Consequently, it intensifies risk shifting and, therefore, increases the need for regulation and the risk of default. For highly leveraged institutions the increased risk shifting under fair value accounting outweighs an underinvestment of book value accounting and ultimately reduces welfare.

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Bibliographic Info

Paper provided by Departmental Working Papers in its series Papers with number 024.

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Handle: RePEc:bef:lsbest:024

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Keywords: fair value accounting; book value accounting; asymmetric information; banking regulation; liquidity;

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  1. Chan, Yuk-Shee & Greenbaum, Stuart I & Thakor, Anjan V, 1992. " Is Fairly Priced Deposit Insurance Possible?," Journal of Finance, American Finance Association, vol. 47(1), pages 227-45, March.
  2. Mathias Dewatripont & Jean Tirole, 1994. "The prudential regulation of banks," ULB Institutional Repository 2013/9539, ULB -- Universite Libre de Bruxelles.
  3. John, Kose & John, Teresa A. & Senbet, Lemma W., 1991. "Risk-shifting incentives of depository institutions: A new perspective on federal deposit insurance reform," Journal of Banking & Finance, Elsevier, vol. 15(4-5), pages 895-915, September.
  4. Guillaume Plantin & Haresh Sapra & Hyun Shin, . "Marking to Market: Panacea or Pandora’s Box ?," GSIA Working Papers 2005-E4, Carnegie Mellon University, Tepper School of Business.
  5. Andrea Enria & Lorenzo Cappiello & Frank Dierick & Sergio Grittini & Andrew Haralambous & Angela Maddaloni & Philippe Molitor & Fatima Pires & Paolo Poloni, 2004. "Fair value accounting and financial stability," Occasional Paper Series 13, European Central Bank.
  6. Akerlof, George A, 1970. "The Market for 'Lemons': Quality Uncertainty and the Market Mechanism," The Quarterly Journal of Economics, MIT Press, vol. 84(3), pages 488-500, August.
  7. Venkatachalam, Mohan, 1996. "Value-relevance of banks' derivatives disclosures," Journal of Accounting and Economics, Elsevier, vol. 22(1-3), pages 327-355, October.
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