IASB Chairman speaks about financial stability and what accounting rules can contribute and cannot contribute
04 Jun 2012
On 4 June 2012 Hans Hoogervorst, Chairman of the IASB, addressed the 3rd ECB Conference on Accounting, Financial Reporting and Corporate Governance for Central Banks in Frankfurt. In his speech, he focussed on financial stability and the question of what accounting rules can contribute to this objective - especially transparency about impairment.
Hoogervorst began his speech by pointing out that in the discussions about what the primary goal of standard setting should be, transparency and financial stability were often seen as juxtaposed. This, Hoogervorst commented, is an essentially false and counterproductive assumption, as transparency is exactly what accounting rules can contribute to financial stability.
The IASB Chairman was very clear about what standard setters cannot do: They cannot ensure stability by themselves, and they cannot (and will not) make items appear to be stable when they are not. They can however contribute to increased transparency which in turn gives prudential regulators and central banks the possibility to react with the instruments available to them.
Hoogervorst noted three aspects of transparency that were and are especially important in connection with the financial crisis and the current Euro crisis:
Tightening of consolidation requirements to prevent undesirable off-balance‑sheet financing - this was a problem especially in the United States, but improved consolidation and disclosure requirements under US GAAP were introduced during the financial crisis. Hoogervorst quoted this as valuable contribution standard setters made to increased transparency and concluded: "[W]e can reasonably hope that this problem will now be a matter of the past."
Judicious use of fair value accounting to show inherent volatility in business models and markets - during the financial crisis there were often calls to abandon fair value accounting as it was believed to lead to artificial volatility. Hoogervorst pointed out, however, that the financial sector is an industry with a lot of inherent volatility, not showing it would diminish transparency not increase it. At the same time the standard setters are well aware that for some instruments, amortised cost is deemed to provide more relevant information than short‑term market fluctuations. Therefore, the IASB has decided to continue with a mixed measurement model in IFRS 9. Hoogervorst also briefly touched on the recent developments in the limited reconsideration of IFRS 9 and the decision to re-establish a fair value through OCI category for certain debt instruments.
Providing a well-functioning impairment model for reliable and credible amortised cost measurements - the current impairment model based on incurred losses came also under criticism during the financial crisis and the Euro crisis. Hoogervorst admitted that this was probably partially justified, even though the model also suffered from a less than vigorous application as triggers to start writing off were abundant yet for various reasons ignored. Still, IASB and FASB are developing a model that is based on expected losses, not on incurred losses, and that Hoogervorst believes will be a major improvement and a great contribution to increased transparency. (A re-exposure of the exposure draft on impairment is expected in the fourth quarter of 2012.) However, Hoogervorst also pointed out the limitations of the new model:
[As] I said before, the expected loss model relies to some extent on judgement. Before the present crisis, many banks and their supervisors obviously were not able to perfectly anticipate risk [... and] there is no guarantee that future bankers will do a much better job of anticipating risk than current bankers. So it is not likely that all the risks that are building up during an economic boom will be recognised in time. Even with an expected loss model, many losses will only become apparent when the economic downturn sets in.
Please click for access to the full speech on the IASB website.