Too much regulation? ‘Mark to market’ regulation is loosened

Under pressure from Congress, the Financial Accounting Standards Board four days ago loosened the “mark-to-market” regulation that was imposed in 2002 as part of Sarbanes-Oxley reforms that President Bush signed into law after the Enron accounting scandal.

By allowing banks to use “significant judgment” to estimate the market value of their assets, the FASB’s relaxed rules suddenly will allow financial institutions to lend more. Under “mark-to-market,” bank assets had to be calculated much lower (principally because real estate and mortgage values are way down), and that meant banks could make few loans against those assets.

With the new rules, the banks again may assume their assets are worth more than they really are. This will loosen up money for borrowers, but it also erases a regulation that seven years ago was considered indispensable if another Enron was to be avoided.

If under-regulation caused the current crisis, why are we reducing regulation further? Was over-regulation the problem? And is this the regulation to scrap under pressure?

Frank Warner

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See also: Barney Frank rolls the dice again.

Comments

[Kevin]

"With the new rules, the banks again may assume their assets are worth more than they really are."

The method that they used to value the security was the problem with 'mark to market', not the concept itself. Here's the rule that screwed the pooch:

Say you and I each take out a $100k loan on identical $200k houses. The bank now has two identical ~$100k securities that are based upon the value of our houses.

Suddenly, I lose my job, and can't pay my mortgage. After all is said and done, the bank gets back about $50k of the initial $100k loan that it gave me.

Here's the part that's the problem: Because of the mark to market rules, the loan that the bank gave to you is suddenly only worth $50K as well! Even though you are probably going to pay your mortgage.

That's ridiculous, and it eats up a bank's ability to lend at incredible speed. The bank can't borrow as much on your mortgage as it used to be able to do, and it can't sell it, because it's supposedly only worth $50k.

With mark to market, a few percentage change in foreclosures could sink a bank. And it did!

[Frank Warner]

I understand. And the accountants understood that when they settled on those rules in 2002.

The rules probably needed adjusting. But the worrisome thing is that this new revision isn't the result of the FASB acting out of concern over accounting; this is the FASB acting out of concern over Congress breathing down its neck.

[Kevin]

Crud, I thought everyone apolitical agreed that the CRA and mark to market one-two punch was what caused the financial crisis. Now it appears that not everyone agrees that mark to market was a failure, and in fact it accurately values the securities.

Sheesh. Who to believe?

[Frank Warner]

When Barney Frank says get rid of mark-to-market, it's time to hold on to it.

[Kevin]

You've made a persuasive argument, Frank. Consider my mind changed.

[Frank Warner]

Well, there may be some reasonable compromise.

[David Holliday]

At one time I would have said mark-to-market was a disaster. But I think I would have been wrong. Years from now economist and financial experts may look back and say mark-to-market saved us from an even worse disaster. Why? Because mark-to-market restored (although in an incredibly painful way) sane pricing to the market.

That and the fact the Barney Frank is now against it has me convinced, like Kevin, that mark-to-market should be retained.