Tuesday, September 17, 2013

UK banks received favorable accounting treatment from regulators

PIRC, a UK institutional investor consultancy firm, looked into how UK banks were required to report their financial statements since the beginning of the financial crisis.

What PIRC found is the regulators effectively broke the spirit if not the letter of the law by letting banks report financial statements that made the banks appear healthier than they were.

This is yet another example of why banks must be required to disclose on an ongoing basis their current global asset, liability and off-balance sheet exposure details.  This disclosure minimizes the potential for banks to overstate their health as the statement can be independently verified by market participants.

Amidst the fallout of the banking crisis, where all of the failed banks appeared healthy by their accounts, is the question of quite why did the Financial Reporting Council quietly dissolve the legal entity the Accounting Standards Board (“ASB”), shortly afterwards, and subsume the functions within itself? 
PIRC has discovered tucked away at the back of the ASB’s yawningly long Statement of Principles, from 1999 (a very good year for very bad ideas) the very clear admission that the ASB had a systemic disregard for the law, because it thought it knew better. Or, quoting from the document, the ASB preferred to focus on “what is deemed to be right”. 
Given that “what is deemed to be right” included abolishing general provisions for bad debts, meaning that risky lending was overvalued in the balance sheet and underpriced for the risk, what was “deemed to be right” was in fact nothing less than reckless and wrong and illegal. 
The law that was being disregarded was the very simple rule that accounts must show whether any company is solvent or not. The full statement is below: 
“However, the development of the Statement has not been constrained by legal requirements because the Board believes that accounting practice evolves best if regard is had in documents such as the Statement of Principles to what is deemed to be right rather than what is required by law.”

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