Are fair value rules fair game?

Critics of mark-to-market accounting get another chance to air their grievances, but a big regulatory shift looks unlikely.

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Colin Barr, senior writer

Mary Schapiro has said the SEC expects to change accounting rules 'around the margins.'

NEW YORK (Fortune) -- Lawmakers are about to get another earful from people who say so-called fair value accounting is anything but fair.

A congressional panel has scheduled a hearing for Thursday morning to explore the shortcomings of fair value accounting, the rules that oblige financial institutions to value certain securities at the price they could fetch in a sale now.

The panel, convened by Rep. Paul Kanjorski, D-Pa., will focus on whether fair value rules have deepened the financial crisis. Critics such as former banking regulator Bill Isaac and ex-GE chief Jack Welch have charged they have done just that, by forcing unnecessary writedowns on rarely traded but largely unimpaired assets.

"I want to find a way -- within the existing independent standard-setting structure -- to still provide investors with the information needed to make effective decisions without continuing to impose undue burdens on financial institutions," Kanjorski, who is the chairman of the House Capital Markets subcommittee, said in a media statement this week.

Speculation that regulators might ease the fair value rules helped feed a big stock market rally Tuesday.

Federal Reserve chairman Ben Bernanke spoke of "the desirability of reducing the procyclical effects of capital regulation and accounting rules" in a speech Tuesday morning -- a comment investors took to mean regulators might be open to rule changes that would limit unnecessary mark-to-market writedowns.

But policymakers such as Securities and Exchange Commission chief Mary Schapiro -- whose agency oversees the private sector body that makes the accounting rules -- have signaled that they don't plan a big overhaul. Schapiro said last month that she expects any changes to accounting rules to be made "around the margins."

Sweeping changes appear unlikely in part because investors like the transparency that fair value rules bring. Also, regulators have been loath to change rules set by an independent private-sector group, the Financial Accounting Standards Board.

The SEC, which oversees FASB, issued a report in the waning days of the Bush administration that concluded after months of study that fair value rules didn't cause any of the financial institutional failures that rocked the economy last fall. Most economists agree that the current woes of the economy are driven by years of excess credit creation and a collapse of underwriting discipline, not by the vagaries of bookkeeping.

Still, even among those who share that view, there is a sense that more robust guidelines may be necessary for banks seeking to place a current value on assets whose markets have dried up in the past few months.

"In most loss situations, there was a failure to use common sense," said Tanya Beder, a risk management expert who runs the SBCC Group financial consultancy in New York and is expected to testify before the congressional panel Thursday.

She added that "mark-to-market isn't the cause" of banks' problems but that "it adds some fuel to the fire" since it has led to extreme changes in asset values, which have hurt company profits.

Of course, the reverse is true when asset prices are rising, as they did for so many years before the recent bust. But some say the flaws with mark-to-market accounting become impossible to overlook during a downturn.

Lee Cotton, a former president of the Commercial Mortgage Securities Association, likens the process of pricing rarely traded commercial mortgage-backed securities to trying to auction off a just-opened bottle of spring water.

"That water's still good to me, but nobody is going to pay much more than a nickel for it," said Cotton, who also is scheduled to testify Thursday.

He said that even though many commercial mortgage bonds continue to perform at a high level, securities dealers are only willing to pay distressed prices for them because "none of them has the capital or the desire to own these right now."

Rulemakers can ease the problem, Cotton added, by making it clear that accountants can depend on their own credit analysis as well as bids they get from dealers.

"Assets that are performing shouldn't have to be written down to the degree they have been in many cases," said Cotton.  To top of page

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