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Procyclicality and Fair Value Accounting

  • Jodi G. Scarlata
  • Juan Sole
  • Alicia Novoa
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    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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    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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    1. Max Bruche & Carlos Gonzalez-Aguado, 2006. "Recovery rates, default probabilities and the credit cycle," LSE Research Online Documents on Economics 24524, London School of Economics and Political Science, LSE Library.
    2. Bangia, Anil & Diebold, Francis X. & Kronimus, Andre & Schagen, Christian & Schuermann, Til, 2002. "Ratings migration and the business cycle, with application to credit portfolio stress testing," Journal of Banking & Finance, Elsevier, vol. 26(2-3), pages 445-474, March.
    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. 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.
    5. Monika Piazzesi & Martin Schneider, 2006. "Equilibrium Yield Curves," NBER Working Papers 12609, National Bureau of Economic Research, Inc.
      • 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.
    6. Nickell, Pamela & Perraudin, William & Varotto, Simone, 2000. "Stability of rating transitions," Journal of Banking & Finance, Elsevier, vol. 24(1-2), pages 203-227, January.
    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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