Andrew G Haldane: Fair value in foul weather
Remarks by Mr Andrew G Haldane, Executive Director, Financial Stability, Bank of England,
based on a previous speech to the Royal Institution of Chartered Surveyors, London, in
November 2009 on 10 March 2010.
* * *
Based on a speech given at the Royal Institution of Chartered Surveyors, 10 November 2009. I am grateful to
Dele Adeleye, Alan Ball, Paul Doran, Kemal Ercevik, Andrew Hauser, Florence Hubert, Salina Ladha, Vas
Madouros, Colin Miles, Alastair Morley, Paul Tucker and Nick Vause for comments and contributions.
Shakespeare's Macbeth opens amid a thunderstorm, with the three witches cackling:
"Fair is foul, and foul is fair
Hover through the fog and filthy air"
Macbeth [Act 1.1.11-12]
Recently, the global financial system has experienced its own dramatic thunderstorm.
Financial markets have been thick with fog and filthy air. At times, lightening strikes have
threatened seizure in some financial markets and institutions. Two years on, the rumbles of
thunder are still discernable.
The debate on the causes and consequences of this perfect storm will swirl around for many
years to come. At the centre of this storm is, on the face of it, a rather basic question: how
should the instruments that make up the financial system be valued? So basic a question
ought not to be a matter of life and death. But for a great many financial institutions during
this crisis, it would have been precisely that.
The fundamental concept on which this debate hinges is fair value. Like beauty, its meaning
lies in the eyes of the beholder. For some, "fair is foul" - the application of fair value
principles risks exposing financial firms to the vagaries of markets, fog, filthy air and all. For
others, ignoring the signals from financial market is itself foul and risks creating a financial
landscape that is foggy and anything but fair.
The fair value debate is generating electricity in the usually static-free professions of
accountancy and regulation. Bankers fulminate at the mere mention. Among Heads of State
in some of the biggest countries in the world, accounting standards for derivatives have
generated levels of fear and consternation usually reserved for non-financial weapons of
mass destruction.
Against that backdrop, this paper attempts to shed a little light on this heated debate.
Three phases of fair value
So what lies at the heart of this debate? It is well-captured by Preston Delano, US
Comptroller of the Currency:
"...the soundness of the banking system depends upon the soundness of the
country's business and industrial enterprises, and should not be measured by the
precarious yardstick of current market quotations which often reflect speculative
and not true appraisals of intrinsic worth".1
Delano was US Comptroller of the Currency in 1938. This provides a clue to the fact that the
fair value debate is not a new one. To understand this debate, its origins and undulations, it
is worth starting at the very beginning.
Although book-keeping has far earlier antecedents, modern accountancy is believed to have
begun in the Italian cities of Genoa, Venice and Florence in the 14th century. It is no
coincidence that modern banking emerged at precisely the same time in precisely the same
cities. Banks emerged to service rapidly expanding commercial companies. And double-entry
book-keeping became an essential means of recording and tracking who owed what to
whom, oiling the wheels of finance.
It is no coincidence, too, that the first-known description of accountancy was provided by an
Italian, Luca Pacioli, in the late 15th century.2 Pacioli was not your typical accountant. A
wandering Franciscan monk, tutor and mathematician, he was friend and sometime
collaborator of Leonardo de Vinci. Although comfortably the less famous of the two, Pacioli is
still known today as the father of modern accounting.
From those beginnings, double-entry began to spread north within Europe during the Middle
Ages: to Germany in the 15th century, Spain and England in the 16th century and Scotland
in the 17th century. By the late 18th century, Goethe had called double-entry "among the
finest inventions of the human mind".3 Some people are easily impressed. Despite that, the
progress of double-entry was surprisingly slow. At the start of the 19th century, there were
only eleven Londoners who listed their occupation as "accomptants". Imagine.
The 19th century marked a turning point. In the UK, joint stock companies began to spring
up. The Bankruptcy Act of 1831 gave accountants a role in winding-up enterprises and the
Companies Acts of 1844 and 1862 established a legal requirement for companies to register
and file accounts. By the end of the century, audit practices were becoming established. The
accountant's role was to provide a true and fair view of a company's assets and income, as
protection for the state (to whom it paid taxes) and investors (to whom it paid dividends).
It was these concerns that led to the gradual emergence during the second half of the
19th century of fair-value based accounting conventions in the US. From the late
19th century, banks' securities were carried at market values and their fixed assets at
"appraised values". In other words, by the early 20th century fair value principles were widely
applied to companies in general and to banks in particular. In many respects, this period may
have been the high-water mark for fair value principles.
In the US, this first wave of the fair value debate ended in 1938.4 The backdrop was
inauspicious. The first phase of the Great Depression, between 1929 and 1933, saw the
failure of a large number of US banks. Between 1933 and 1937, the US economy recovered
somewhat. But by 1938 there were fears of a double dip. At the Fed's prompting,
Franklin D Roosevelt called a convention comprising the US Treasury, the Federal Reserve
Board, the Comptroller of the Currency and the Federal Deposit Insurance Corporation
(FDIC). Its purpose was to determine what should be done with prudential standards to
safeguard recovery.
This was no ordinary regulatory convention. Marriner S Eccles, Chairman of the Federal
Reserve, called it "guerrilla warfare". In one corner were the regulators, the Comptroller of the
Currency and FDIC. Scarred by their regulatory experience, and fearing further bank failures,
the Comptroller and FDIC pushed for high prudential standards, including preservation of fair
values for banks' assets. In the other corner was the Fed. Scarred by their monetary policy
experience, and fearing a further collapse in lending, the Fed argued for laxer prudential
standards and the abandonment of fair values. Battle commenced.
New York
The tussle lasted two months, often played out in public through the Times. In the
end, the Fed prevailed. On 26 June 1938, Franklin D Roosevelt announced (without so much
as a hint of irony) the Uniform Agreement on Bank Supervisory Procedures. Banks'
investment grade assets were to be valued not at market values but at amortised cost. And
banks' sub-investment grade assets were to be valued at a long-run average of market
prices. In the teeth of crisis, and in the interests of macroeconomic stability, the first phase of
fair value had ended.
This pattern was to be repeated half a century later - the second wave of fair value. Historic
cost accounting remained in the ascendancy in the US from the 1940s right though to the
early 1970s. But from the mid-1970s onwards, accounting standard-setters began to
embrace fair value measurement, first in the context of banks' portfolios of equities and other
marketable securities.5 By the late 1980s, there was widespread recognition that traditional
accounting approaches were obscuring the real value of securities and derivatives.
US experience during the Savings and Loan crisis in the mid-1980s provided further impetus.
Forbearance, including about the valuation of assets and liabilities, was widely believed to
have been a cause of the build-up of problems among the thrifts.6 In 1989, Congress passed
the Financial Institutions Recovery, Reform and Enforcement Act (FIRREA), tightening
valuation standards among banks and bringing them closer to fair values. In the same year,
the International Accounting Standards Committee (IASC) commenced a project to assess
the measurement and disclosure of financial instruments. These too were to suffer a
set-back.
By 1990, recession had taken hold in the US, with lending contracting sharply. As in 1938,
the US economy was suffering "financial headwinds". As in 1938, the Fed were quick to call
for a relaxation of prudential and valuation standards to head-off pressures on banks.7 And
as in 1938, the upshot was a concerted move by the then-President, George Bush, relaxing
examination and valuation standards.8 For the second time, fair value had been returned to
its box.
And so to the present day - the third phase. By 2008, the ranks of "accomptants" had
swelled, with numbers of recognised accountants in the UK totalling over 275,000. Yet the
issues today have loud echoes of 1938. Through the 1990s, the main international
accounting standard-setters extended the boundaries of fair value. In the US, this was given
impetus by the Federal Deposit Insurance Corporation Improvement Act (FDICIA) in 1991.
Widespread use of mark to market was a key ingredient of the prompt corrective action
approach embodied in FDICIA.
From 1992, it became a requirement among US companies to disclose the fair value of all
financial instruments in the notes to their accounts. Towards the end of the 1990s, this move
was formalised with financial instruments (derivatives, equity and debt) being included
explicitly in the accounts at fair value. In the US, this followed adoption of Statement of
Financial Accounting Standard 133 (SFAS 133) in June 1998. Elsewhere, it followed
adoption of the IASC's International Accounting Standard 39 (IAS 39) in January 2001.
The banking crisis of the past two years has brought that evolution to a halt. As pressures on
banks' balance sheets have intensified, subdued lending growth has raised concerns that
recovery may be retarded. A debate has begun internationally on rolling back fair value to
arrest this downward trajectory. Once again, central bank governors, politicians, regulators
and countries have been prominent in their criticism of fair value. Some fear that fair value is
poised to enter the third dip on its rollercoaster journey.
Fair values and market prices
What have been the underlying forces leading fair value to be at first lauded, then questioned
and periodically abandoned? At the heart of this is the vexed question of whether market
prices are a true and fair assessment of value.
In theory, market prices ought to be a full and fair reflection of the present value of future
cashflows on an asset. This is the fulcrum of the Efficient Markets Hypothesis (EMH). Market
prices, if not perfect, are at least efficient aggregators of information - a one-stop shop for
appraising value. This simplicity makes EMH powerful theory. But its real power is its
widespread application in practice. EMH has not just monopolised the finance textbooks; it
has also dominated the dealing rooms.
If the EMH were to hold strictly, the fair value debate would be uncontentious. Marking of
assets to market would be proper recognition of their economic value. In that financial utopia,
the interests of accountants, investors and regulators would be perfectly aligned.
Accountants would have a verifiable valuation yardstick; investors a true and fair view of their
true worth; and regulators an objective means of evaluating solvency. Fair value would serve
treble duty.
In practice, the fair value debate is contentious and has been for at least a century. Through
history, accountants, investors and regulators have not always sung in tune. Today,
accountants are singing opera Pacioli-style, regulators are rapping at 300 words a minute,
while investors are left to whistle. In part this discord has been blamed on failures of EMH,
"the precarious yardstick of current market quotations".
It should come as no surprise that fair value principles have faced their stiffest tests at times
of crisis - the Great Depression during the previous century, the Great Recession during this.
For it is at crisis time that EMH itself faces its stiffest test, perhaps none greater than
recently. The heterodox British economist George Shackle observed: "Valuation is
expectation and expectation is imagination".9 Imagination, and thus valuation, is apt to run
wild at the peak of the boom and trough of the bust.
These episodes of over-active imagination, or deviations from EMH, can be grouped roughly
three ways. Each has an important potential bearing on financial stability and on the fair
value debate:

"Excess volatility": Some of the earliest evidence against EMH focussed on the
tendency of asset prices to fluctuate more than could be justified by movements in
fundamentals - so-called excess volatility. While early evidence focussed on the
behaviour of equity prices, the same tests have now been applied to a wide range of
asset markets, including corporate bonds, asset-backed securities and exchange
rates.10 There is overwhelming empirical evidence of excess volatility in asset
prices.
 Excess volatility, while inconvenient, need not by
"Medium-term misalignment":
itself severely distort the functioning of capital markets. Asset prices' signals might
be noisy, but correct on average. But there is emerging evidence of asset prices
becoming persistently misaligned from fundamentals in a variety of markets
including equity, residential and commercial property and corporate bonds.11
 A third aspect of the failure of EMH is evidence of seemingly
"Apparent arbitrage":
pure arbitrage opportunities being sustained by market participants for lengthy
periods. Unlike excess volatility and misalignme nt, these deviations from
fundamentals represent riskless opportunities to make profits. They have been
evident in past, and in particular in the present, crisis.
Ultimately, the importance of these three features is an empirical question. Charts 1 and 2
plot the long-run behaviour of the equity market, in the UK from the 1920s and in the US from
the 1860s. These long sweeps of history are revealing about patterns of misalignment and
excess volatility. In each case, some metric of f u n damentals is needed. A model-based
measure of fundamentals is used, based on long-run average values of dividend growth
discounted at a long-run average real interest rate.12
For the US and UK, Charts 1 and 2 present persuasive evidence of both excess volatility and
misalignment. On average over the sample, equity prices in the UK and US are around twice
as volatile as fundamentals. The average absolute deviation of UK and US equity prices from
fundamentals has been over 20% and over 3 0% respectively. If anything, there is evidence
of misalignments having increased. Average absolute misalignments have averaged almost
30% and 70% in the UK and US since 1980.
These deviations from EMH are no less striking moving from financial to real assets. Since
1930, real property prices have been more than twice as volatil e as typical measures of
fundamentals. And real property prices have, in different countries, at times deviated
significantly from measures of fundamentals over the same period.13
EMH predicts essentially a zero correlation in prices across time, as they follow the random
walk of the homeward-bound drunk. This evidence paints a picture of excess volatility (in the
short-run) and slow mean-reversion (in th e long-run). In other words, there is both positive (at
short horizons) and negative (at longer horizons) serial correlation in market prices. This
leaves EMH run-over in both directions.
With a steely nerve and deep pockets, investors could make profits from exploiting these
trends. But as Keynes remarked, the market can often remain irrational for longer than even
a strong-willed investor can remain solvent. In oth er words, these are risky bets. The crisis
has also revealed, however, examples of bets which were, on the face of it, essentially
riskless deviations from EMH or "apparent arbitrage".
Chart 3 considers the price of two on the face of it identical portfolios - an index of CDS
contracts and an individually-constructed portfolio of the same CDS contracts. On average,
they ought to trade as one and the same. But for around a year from October 2008 onwards,
the spreads on these two portfolios differed by as much as 60 basis points. Even once
transactions costs are taken into account, there were persistent and significant riskless
profits on the table. Chart 4 looks at the difference between two, again on the face of it,
identical money market bets - forward rate agreement spreads and forward rates implied by
the LIBOR spreads, both of the same maturity. Over the exact same period, these differed by
as much as 250 basis points.
So why were the bets not placed and the arbitrage opportunities exploited? First, money is
needed to place even a riskless bet. That was the scarcest of commodities after the failure of
Lehman Brothers in October 2008. Second, placing a bet also requires a trustworthy
bookmaker. They too were thin on the ground in th e midst of crisis. In their absence,
arbitrage may be more "apparent" than real. Market prices are likely to deviate from
fundamentals due to liquidity and counterparty premia.
By way of illustration, Chart 5 provides a decomposition of the yield on sub-investment grade
corporate securities in the UK. By mid-2007 at the peak of the boom, the liquidity premium on
these assets had pretty much be en eliminated. By the end of 2008, this liquidity premium had
risen by almost 2500 basis points. As capital markets moved from flood to drought, market
prices turned from rich to poor.
Fair value and financial stability
Against this backdrop, what are the potential financial stability implications of using market
prices as a valuation yardstick? In roughly chronological order, three main arguments have
been used in defence of marking to m arket. Broadly, these mirror the three historic phases of
fair value:

"Protecting shareholders"
During the 19th and early 20th centuries, as joint stock companies sprang up, the key
purpose of company accounts was to protect shareholders' interests. Like truth in the face of
the war, in the face of crisis the financial accounts appear to have been the first casualty.
During the 19th century, the published accounts of Spanish banks became less frequent
during episodes of crisis. Mussolini's Italian government of 1931 went one step further,
suspending publication of accounts by the banks to forestall panic.14 It is unlikely Goethe and
Mussolini would have agreed on the merits of double-entry.
While less extreme, there is compelling evidence of British banks having massaged balance
sheets from the late 19th century right up until the early 1970s, especially during crisis.
Typically, this involved the systematic under-valuation of assets to allow hidden reserves to
be carried on the balance sheet. The experience of UK banks in 1952 was typical. As the
prices of government securities fell sharply, the b asis for valuation by banks was shifted from
"at or below market value" to "at or under cost". This mirrored the Roosevelt and Bush
forbearance announcements of 1938 and 1990.
The motives for hidden reserves among UK banks were purportedly prudential, as protection
against the "excessive dividend expectations" of shareholders and as a cushion against
losses in crisis.15 Although the Companies Act of 1947 prohibited the use of hidden reserves,
the banks were exempt from its provisions. But the writing was on the wall. Non-disclosure by
banks came under repeated fire during the 1960s. Sensing the inevitable, British banks
"voluntarily" d ecided to pursue full disclosure in 1969, in the interests of shareholder
transparency and protection, though there is evidence of hidden reserves persisting right up
to the 1980s.
Those considerations remain relevant today. Shareholders in global banks have lost 40% of
their net worth since the start of the crisis. The implied volatility of global banks' equities is
around 50% higher than at the start o f the crisis. At its peak, it was seven times higher.
Confidence in banks' balance sheets has been shaken to the core. It is unlikely to be
restored by a return to murky valuation and hidden reserves.

"Gambling for resurrection"
One special case of shareholder protection arises when management increase their
risktaking incentives as the probability of failure rises. Such incentives are in-built in a world of
limited liability. But the ability to engage in such gambling for redemption depends
importantly on the degree of information asymmetry between the shareholders and the
manager. The lower the transparency of the accounts, the greater the incentives and ability
of management to bet the ranch.
This type of behaviour is if anything more likely among banks, given the intrinsically greater
opacity of their assets. And examples are legion. For example, in the run-up to the Savings
and Loan crisis in the US, many thrifts financed long-term fixed rate assets with variable rate
deposits, thereby running significant interest rate risk. This was a big gamble. But because it
was dis guised in the accounts, neither regulators nor the thrifts themselves felt obliged to
manage this risk. As interest rates rose , the gamble failed causing many thrifts to collapse. In
response, the Office of Thrift Supervis ion required fair values to be reported from the early
1990s.

"Timely risk management"
lues arises from its role as
Perhaps the most recent of the arguments used to support fair va
a risk management device. Market prices, while noisy, offer timely signals. They are likely to
prompt early recognition and management of emerging risks and mistakes, by both
regulators and the regulated. Sunlight is an effective disinfectant.
In this regard, it is telling that more widespread marking to market accompanied regulatory
efforts to improve prompt corrective action measures - for example, in the US through
FDICIA. Among market participants, the use of fair values and fleet-of-foot risk management
techniques is widely felt to have contributed to the relative success of some firms during the
course of the crisis. Lloyd Blankfein, CEO of Goldman Sachs, c ertainly appears to think so.16
For the prosecution, the ma in arguments also appear to be threefold. Essentially, these
follow from the three commonly attributed failures of the EMH.

"Excess volatility"
If market prices exhibit greater volatility than warranted by fundamentals, this will be mirrored
in the balance sheet footin gs and profits of entities marking their positions to market. This is
far from a new phenomenon. Robert E Healy, the SEC's first Chief Accountant back in the
early 1930s, lamented that firms "can capitalise practically everything except the furnace
ashes in the basement".17
The impact of fair values on profits may have been even greater over recent decades. Banks'
profits have become significantly more vola tile over the past few decades, with the standard
deviation of banks' return on equity trebling comparing the forty-year periods either side of
1970. There is also evidence of banks' equity prices having exhibited higher correlation as
fair value principles have been extended.18
Consider a hypothetical experiment. Imagine banks in the UK had been required to mark
their banking books to market over the period 1999 to 2008, in addition to their trading book.
Market prices are used to proxy different categories of loan. For example, Residential
Mortgage Backed Securities (RMBS) and covered bond prices are used to proxy mortgage
loans. As with banks' trading books, all gains and losses arising on the banking book are
assumed to flow directly to profits.
Chart 6 plots the path of UK banks' profits, both actual and simulated under the mark to
market assumption. Simulated profits are around eight times more volatile. Between 2001
and 2006, UK banks' cumulative profits would have been around £100 billion higher th an
recorded profits, as the expected future returns to risky projects were brought forward. This
would have been the 21st century equivalent of capitalising the ashes in the blast furnace.
For what goes around comes around. Hypothetical losses during 2008 would then have
totalled in excess of £300 billion, as the risk from these projects was realised. The ashes in
the furnace truly turned to dust. Had shareholders not already torn it out, thi s rollercoaster
ride in profits would have been hair-raisin g. In this admittedly extreme case, it is questionable
how much shareholder protection fair values would have delivered in practice.

"Fundamental misalignment"
A related but distinct issue arises when market prices deviate from their true values for a
protracted period. Marking to market then runs the risk not just of unwarranted volatility but
unjustifiable bankruptcy. T ake a bank whose liabilities are perfectly maturity matched with its
10-year assets. So there is no necessity for the bank to liquidate its assets to make good its
liabilities as they fall due.
But the market price of the banks' assets might well embody a premium for instant liquidity -
a liquidity premium. As Chart 5, at times of stress, these premia are large and overshoot,
lowering asset prices below economic value. In this situation, a marked to market balance
sheet may give a misleading impression of banks' worth. And if these distortions are large
enough, fair values could even generate insolvency.
During this crisis, the precipitate rise in liquidity premia and fall in asset prices may have
called into question the viability of many banks had their assets been fair-valued. Consider
again the banking book of UK banks on a mark to market basis. Chart 7 shows the loss of
value on this book, which would have peaked at over £400 billion during the early months of
2009. The total capital resources of UK banks at that time were around £280 billion. In other
words, the UK banking system in aggregate would have been technically insolvent on a mark
to market basis. The recent recovery in asset prices has been almost as remarkable as the
preceding fall. It has meant UK banks were back in the black within a matter of months.

"Liquidity and fire-sales"
The act of marking to market may itself have a bearing on asset price dynamics. This arises
because of its potential effects on banks' behaviour. If swings in perceived solvency cause
banks to sell assets, these fire-sales may themselves add to downward pressures on asset
prices. Under mark to market, these pressures are felt by all institutions, not just the seller. In
effect, fire-sal es by one firm have negative externalities for all others. And as other banks
adjust their own balance sheets in response, there is a risk the downward dynamic is
perpetuated.
By acting in this way, marking to market has the potential to serve as an amplifier of stress in
the financial system.19 Other things equal, it could result in sharper and more severe asset
price falls than in the past, accompanied by greater institutional stress. It could exaggerate
excess volatility and misalignment. Marking to market may not just be a casualty of the
failure of EMH; it may also be a cause.
Hyun Shin has likened the destabilising dynamics of mark to market to the unstable
oscillations of London's Millennium Bridge at the time it opened. In finance, these adverse
dynamics have a much longer historical pedigree. In their classic monetary history of the
United States, Friedman and Schwartz assigned mark to market a key role in propagating
20
banking f ailure during the Great Depression. The evidence of such dynamics during this
crisis is more mixed. Some studies have claimed this effect was limited to banks with large
trading portfolios;21 others that it has been significant and wide-ranging across the financial
sector.22
Perhaps the truth lies somewhere in between, with some market and institutions affected and
others immune. Chart 8 plots commercial property values in the UK since 1920. There are
five discernible boom and bust cycles in commercial property, signified by the dotted lines.
Chart 9 looks at the cumulative falls in value during the bu st. In four of the cases, the bust
was similarly timed and sized. The exception is the bust of 2007-08, where the fall in value
has been both greater and faster. It is plausible that fire-sales, aggravated in part by marking
to market, may have con tributed to this dynamic.
The fair value agenda
So how do these considerations relate to the debate on international accounting standards?
At present, these stand at a crossroads. In the US (thro ugh the Financial Accounting
Standards Board (FASB)) and internationally (through the International Accounting
Standards Board (IASB)), standard-setters are reviewing their treatment of financial
instruments. Substantive decisions are planned during 2010.
Within the IASB, a review of IAS39 is underway, with consultation on a new standard, IFRS9.
The fair value debate is at the heart of the new proposals. One key dimension is valuatio n,
where IFRS9 proposes a combination of amortised cost and fair values, with clear criteria to
determine the suitability of assets for each category. In the US, FASB is expected to issue
consultation proposals that would tend to reinforce the use of fair value among US banks.
A second dimension is provisioning. The concern here is that the use of provisions based on
incurred losses means that impairments a re recognised too late, thereby contributing to
pro-cyclicality of loan supply.23 In response, the IASB has issued a consultation paper
proposing that provisions be set on an expected loss basis. These proposals are currently
being explored by regulators internationally.
19
For example, see Plantin, Sapra and Shin (2008) and Allen and Carletti (2007) for a theoretical exposition of
these dynamics.
20
"Under such circumstances, any runs on banks for whatever reason became to some extent self-justifying,
whatever the quality of assets held by banks. Banks had to dump their assets on the market, which inevitably
caused a decline in the market value of those assets and hence of the remaining assets they held. The
impairment in the market value of assets held by banks, specifically their bond portfolios, was the most
important source of impairment of capital leading to bank suspensions, rather than the default of specific loans
or specific bond issues." (Friedman and Schwartz (1963)).
21
For example, Laux and Leuz (2009).
22
For example, Wallison (2008).
23
For example, Turner (2010).
BIS Review 28/2010
Underlying both of these debates is a perceived tension between the needs of different
stakeholders, in particular investors and regulators. So what broad principles might frame
accounting standards if the demands of these stakeholders are to be met? Using the
framework outlined earlier, these principles might include:

The importance of a common measuring rod
The G20 have committed FASB and the IASB to convergence of international accounting
standards by June 2011. This is an ambitious timetable, for it is not just a meeting of two
minds. There are perhaps more than 30 different accounting standards operating worldwide.
Many minds need to meet if a truly international standard is to emerge.
It could be argued that differences in accounting standards do little harm. Like foreign
languages, we may learn to live, pe rhaps even love, them. Attempts to compel a common
language might risk creating the accountancy equivalent of Esperanto. Unfortunately, the
analogy is inexact. Banks are, by their nature, international. So too are investors in, and
regulators of, banks. If all parties speak different languages at the same time, the result is
likely to be noise rather than signal.
For banks, the noise to signal ratio has been particularly high during this crisis. Differences in
accounting standards have contributed
to this noise. In 2008, UK banks' assets would have
been £2 trillion, or around 30%, larger under European IFRS than under US GAAP
standards. These differences make problematic international comparisons of such
rudimentary concepts as bank leverage. This in turn hinders investors' risk assessments and
regulators' supervisory assessments.
 A failure of efficient markets is not of itself a failure of fair value
It is commonly h eard that the failure of EMH argues against fair value in