Bank investors must be taken into account

As expected, accounting will lie at the heart of plans to avoid another
crisis. The FSA proposed that all banks should put aside an ‘economic cycle
reserve’ for a rainy day which should appear on the balance sheet.

But Turner, in his review, also hinted that the sum should appear in the
profit and loss account. This is so bonuses can be calculated on figures that
have taken account of the reserve, ie. a smaller number. This, it is hoped,
would then create a counter-cyclical dynamic in bank financial statements and
offset much of the ‘irrational exuberance’ in the markets that has come to
preoccupy the regulator.

But it’s already clear that opposition to the P&L measure is that it
would actually make the accounts less transparent.

It’s also clear that the Turner report places responsibility for deciding
this issue in the lap of the International Accounting Standards Board, already
fighting on another front to defend the principle of fair value accounting ­
incidentally, Turner is no great fan, declaring fair value as good for investors
but bad for regulators.

He has a point though. Accounting for a reserve will need international
agreement. It would be folly to try to make this domestic policy only. This is
bound to create tension internationally, especially with the French. But the
debate must go further. It must encompass the attitude of investors that pushed
banks onwards despite knowing the risks. If their attitude does not change, it
doesn’t matter how the reserve appears in the accounts, they will discount it to
get the figures they want. This is a debate with a long way to go.

See our discussion of the report at

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