An Update on Emerging Issues in Banking 

Financial Transparency and Regulatory Policy 

May 30, 2002 

Summary

Financial transparency is of vital importance to market participants and 

regulators alike. The FDIC's mission to promote public confidence in the U.S. 

banking system gives it a shared responsibility for defining the rules of the 

road in the financial marketplace. To that end, the FDIC is hosting a June 4 

symposium entitled Enhancing Financial Transparency where the nation's 

leading experts from the private and public sectors will address the issue 

from the perspective of financial analysis, accounting standards, and 

regulatory policy. The entire symposium will be webcast live on 

www.fdic.gov. This issue of FYI summarizes a few of the topics that 

symposium participants will address. 

The importance of financial transparency and investor confidence in financial 

markets can hardly be overstated in the current environment. During the tenyear economic expansion that ended in early 2001, an increasing percentage 

of credit market assets were held by what could be termed "market-based" 

lenders while fewer were held by depository institutions (Chart 1).1 While 

information technology has been widely cited as the driving force behind 

higher rates of growth in economic activity and productivity in the New 

Economy, market-based lending and investing has also brought powerful new 

efficiencies. With the growth of market-based funding sources, capital has 

become more widely available, risks have been more widely and more 

efficiently allocated among investors, and the interests of investors and issuers 

have been increasingly aligned. 
D

Perhaps the most fundamental distinction between market-based financing 

and institution-based financing is how information is used. While traditional 

bank lending requires high quality private information about borrowers, marketbased lending and investing requires high quality public information about 

issuers. This information-in the form of financial statements, audit opinions, 

credit ratings, and analyst reports-is continuously conveyed to investors 

through the media, the internet, and specialized information services. Chart 1 

shows that as access to public financial information has increased over time, 

market-based lenders have increased their share of the financial marketplace 

at the expense of depository institutions. 

In the wake of the collapse of Enron in December 2001, considerable 

controversy has emerged over the quality of reported financial information. 

Enron helped bring the term "special purpose entity" into the general business 

lexicon. While moving assets off the balance sheet is nothing new--especially 

for banks that securitize loans or companies that finance real estate using 

"synthetic leases"--the concerns raised by Enron have led analysts, investors 

and the accounting community to re-examine these affiliate relationships, the 

risks they pose for parent companies, and the valuation issues raised by 

financial transactions with affiliates. 

Accounting practices employed in the reporting of corporate earnings have 

also come under scrutiny as corporate bankruptcies have soared and earnings 

have fallen.2 One practice that has been questioned involves the reporting of 

pro forma earnings totals that have often been relayed to investors by the 

press but that may omit key expense items, thereby boosting the bottom line. 

By one estimate, companies that make up the NASDAQ 100 index reported 

pro forma profits of $19.1 billion for the first three quarters of last year, but later 

reported a loss of $82.3 billion for the same period in public filings that 
conformed to generally accepted accounting principles (GAAP).3 Controversy 

has arisen also over the treatment of stock options as a form of employee 

compensation that does not appear on the earnings statement, and the 

treatment of premiums paid for acquisitions that do not need to be reported as 

an expense unless the stock price of the surviving company suffers after the 

merger. 

The FDIC's mission to promote public confidence in the U.S. banking system 

gives it a shared responsibility for defining the rules of the road in the financial 

marketplace. The quality of reported financial information has a bearing on 

both the regulators' ability to assess risk from off-site and the extent to which 

market discipline can complement regulatory oversight. 

From a regulatory perspective, two priorities emerge. The first is to avoid a 

rush to judgement that undermines the confidence of the public in its markets 

and institutions. Regulators should carefully note what is working in the system 

and why, while actively exploring the areas where reporting practices can be 

improved. Because of the wide array of private-sector and government-sector 

participants that combine to form our financial "rules of the road," regulators 

need to carefully listen to a number of perspectives before defining the 

problems and proposing solutions to fix them. 

To promote these objectives, the FDIC is sponsoring a June 4 symposium 

entitled "Enhancing Financial Transparency." This is not a conference on bank 

accounting practices, but a wide ranging discussion of what is working in the 

U.S. financial reporting infrastructure and what needs fixing. Three panel 

discussions, featuring the nation's top experts from the private and public 

sectors, will address financial analysis, accounting standards, and policy 

proposals, respectively. In the interests of accessibility, the FDIC will carry the 

event live as a webcast starting at 7:45 am on Tuesday June 4. 

1 Here the term "market-based lenders" refers to non-traditional institutions whose assets are either traded in 

markets or can be readily marked-to-market using public information. These institutions typically issue 

liabilities in the form of publicly-traded securities or mutual shares. They include money market funds, mutual 

funds, closed-end funds, government-sponsored enterprises, and various types of asset pools.

2 See Alan Deaton, "Large and Small Companies Exhibit Diverging Bankruptcy Trends," FDIC FYI, January 

31, 2002. http://www.fdic.gov/bank/analytical/fyi/2002/fyi013102.html

3 "Finance And Economics: Out, by $100 billion; Pro-forma Accounting," The Economist, February 23, 2002, 

p. 77.

Last Updated 7/19/2004 
Chart 1

Market-based lenders have surpassed depository institutions as holders of credit market debt

Year Depository Institutions Market-Based Lenders

1960 39.5% 1.9%

1961 40.6% 2.0%

1962 41.6% 2.0%

1963 42.3% 2.1%

1964 43.1% 2.1%

1965 44.0% 2.3%

1966 43.3% 2.7%

1967 44.6% 2.5%

1968 45.1% 2.6%

1969 43.8% 3.1%

1970 44.1% 3.5%

1971 45.4% 3.6%

1972 47.0% 3.7%

1973 47.5% 4.2%

1974 47.0% 4.9%

1975 46.4% 5.0%

1976 46.4% 5.1%

1977 46.1% 5.3%

1978 45.4% 5.8%

1979 44.5% 6.9%

1980 43.6% 7.6%

1981 41.8% 9.1%

1982 39.7% 10.0%

1983 39.8% 9.9%

1984 39.0% 10.7%

1985 36.9% 11.7%

1986 35.6% 14.2%

1987 34.8% 15.1%

1988 34.0% 15.3%

1989 32.1% 16.3%

1990 29.9% 17.6%

1991 28.1% 19.1%

1992 26.9% 20.7%

1993 26.1% 22.3%

1994 25.7% 22.9%
1995 25.5% 23.9%

1996 24.9% 24.6%

1997 24.7% 25.5%

1998 23.9% 28.1%

1999 23.4% 29.5%

2000 23.5% 30.5%

2001 22.9% 32.7%

Source: Federal Reserve Board, Flow of Funds (Haver Analytics).

Credit market debt includes: corporate and foreign bonds, government and agency securities, residential 

and commercial mortgages, consumer credit, open market paper, other loans and advances, and bank 

loans not elsewhere classified.

Market-based lenders include: asset pools, mutual funds, closed-end funds, and money market funds.