Books vs. Fair Value Accounting in Banking, and Intertemporal Smoothing
AbstractThe aim of this paper is to examine the pros and cons of book and fair value accounting from the perspective of the theory of banking. We consider the implications of the two accounting methods in an overlapping generations environment. As observed by Allen and Gale (1997), in an overlapping generation model, banks have a role as intergenerational connectors as they allow for intertemporal smoothing. Our main result is that when dividends depend on profits, book value ex ante dominates fair value, as it provides better intertemporal smoothing. This is in contrast with the standard view that states that, fair value yields a better allocation as it reflects the real opportunity cost of assets. Banking regulation play an important role by providing the right incentives for banks to smooth intertemporal consumption whereas market discipline improves intratemporal efficiency.
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Bibliographic InfoPaper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number 2004-FE-13.
Date of creation: 01 Sep 2004
Date of revision:
Other versions of this item:
- Xavier Freixas & Dimitrios P. Tsomocos, 2004. "Book vs. Fair Value Accounting in Banking, and Intertemporal Smoothing," OFRC Working Papers Series 2004fe13, Oxford Financial Research Centre.
- Xavier Freixas & Dimitrios P. Tsomocos, 2004. "Book vs. fair value accounting in banking and intertemporal smoothing," Economics Working Papers 771, Department of Economics and Business, Universitat Pompeu Fabra.
- E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
- G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
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