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Procyclicality and Fair Value Accounting

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Author Info

  • Jodi G. Scarlata
  • Juan Sole
  • Alicia Novoa

Abstract

In light of the uncertainties about valuation highlighted by the 2007-2008 market turbulence, this paper provides an empirical examination of the potential procyclicality that fair value accounting (FVA) could introduce in bank balance sheets. The paper finds that, while weaknesses in the FVA methodology may introduce unintended procyclicality, it is still the preferred framework for financial institutions. It concludes that capital buffers, forward-looking provisioning, and more refined disclosures can mitigate the procyclicality of FVA. Going forward, the valuation approaches for accounting, prudential measures, and risk management need to be reconciled and will require adjustments on the part of all parties.

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Bibliographic Info

Paper provided by International Monetary Fund in its series IMF Working Papers with number 09/39.

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Length: 42
Date of creation: 01 Mar 2009
Date of revision:
Handle: RePEc:imf:imfwpa:09/39

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Related research

Keywords: Financial institutions; Bank accounting; Bank supervision; Economic models; financial statements; financial stability; financial instruments; banking; bank balance sheets; probability of default; stock market; financial assets; investment bank; stock market index; banks ? balance sheets; capital adequacy; present value; accounting framework; hedge; accounting standard; bank capital; banking supervision; valuation of assets; bank for international settlements; financial markets; cash flows; hedge accounting; financial market; net present value; financial system; bonds; credit policy; hedging; bank of spain; banks ? balance sheet; derivative; capital base; cash flow; equity capital; accounting treatment; valuation of debt securities; discount rate; retail bank; discounted cash flows; bank behavior; banking industry; equity shares; credit derivatives; return on equity; valuation of liabilities; cash flow statements; stock market cycle; bank losses; off balance sheet; capital adequacy ratio; financial instability; bank equity; income statement; liquid markets; asset valuation; credit derivative; adequate disclosure; financial economics; accounting principle; bank supervisors;

This paper has been announced in the following NEP Reports:

References

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  1. Monika Piazzesi & Martin Schneider, 2007. "Equilibrium Yield Curves," NBER Chapters, in: NBER Macroeconomics Annual 2006, Volume 21, pages 389-472 National Bureau of Economic Research, Inc.
  2. Carlos González-Aguado & Max Bruche, 2006. "Recovery Rates, Default Probabilities and the Credit Cycle," FMG Discussion Papers dp572, Financial Markets Group.
  3. 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.
  4. Anil Bangia & Francis X. Diebold & Til Schuermann, 2000. "Ratings Migration and the Business Cycle, With Application to Credit Portfolio Stress Testing," Center for Financial Institutions Working Papers 00-26, Wharton School Center for Financial Institutions, University of Pennsylvania.
  5. Pamela Nickell & William Perraudin & Simone Varotto, 2001. "Stability of ratings transitions," Bank of England working papers 133, Bank of England.
  6. Edward I. Altman & Brooks Brady & Andrea Resti & Andrea Sironi, 2005. "The Link between Default and Recovery Rates: Theory, Empirical Evidence, and Implications," The Journal of Business, University of Chicago Press, vol. 78(6), pages 2203-2228, November.
  7. Pederzoli, Chiara & Torricelli, Costanza, 2005. "Capital requirements and business cycle regimes: Forward-looking modelling of default probabilities," Journal of Banking & Finance, Elsevier, vol. 29(12), pages 3121-3140, December.
  8. Claudio E. V. Borio & Kostas Tsatsaronis, 2005. "Accounting, prudential regulation and financial stability: elements of a synthesis," BIS Working Papers 180, Bank for International Settlements.
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Citations

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Cited by:
  1. Athanasoglou, Panayiotis P. & Daniilidis, Ioannis & Delis, Manthos D., 2014. "Bank procyclicality and output: Issues and policies," Journal of Economics and Business, Elsevier, vol. 72(C), pages 58-83.
  2. Adam Gersl & Petr Jakubik, 2010. "Procyclicality of the Financial System and Simulation of the Feedback Effect," Occasional Publications - Chapters in Edited Volumes, in: CNB Financial Stability Report 2009/2010, chapter 0, pages 110-119 Czech National Bank, Research Department.
  3. Panayiotis P. Athanasoglou & Ioannis Daniilidis, 2011. "Procyclicality in the banking industry: causes, consequences and response," Working Papers 139, Bank of Greece.

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