gertrude tumpel - gugerell : elements for intervention on accounting issues speaking notes by ms gertrude tumpel - gugerell, member of the executive board of the european central bank, at the colloquium “ la juste valeur dans tous ses etats ”, organised by the academie des sciences et techniques comptables et financieres, paris, 27 april 2010. * * * which are the issues related to the fair value for companies? fair value is an appropriate measurement for certain financial instruments, notably those that are held for trading ( i. e. business model is to generate profits by buying / selling in the short term ) and for which reliable market prices are readily available, as well as for derivatives. indeed, given that many derivative contracts have a zero cost at inception, fair value accounting is crucial as it recognises the potential leveraged exposure on the balance sheet. fair value accounting mainly raises two issues : first, when to apply fair value measurement ( conceptual considerations ) and second, how to apply fair value measurement ( operational challenges ). first, in our view fair value accounting does not provide decision - useful information to investors if the intention of an entity is to hold the assets until maturity or to settle the liabilities at their nominal amount at maturity. in these cases, recognising interim fair value changes simply heightens the volatility of the financial accounts, without providing actual “ information content ”. this is typically the case for the loan book of commercial banks. moreover, the ecb does not agree that an entity is required to record a gain when the fair value of its own debt falls due to a decrease in its creditworthiness. the rationale being that the entity could buy back the debt and realise the profit. however, in reality and especially in times of distress, an entity does not have readily available the extra cash to buy back their debt. the recognition of such misleading gains was particularly prevalent in the case of lehman that used it to net against the mounting losses, which simply blurred the entity ’ s actual performance. as referred to in the recent book “ too big to fail ” by andrew sorkin : “ it means that the day before you go bankrupt is the most profitable day in the history of your company, because you ’ ll say all the debt was worthless. you get to call it revenue. and literally ( … ) pay bonuses off this. ” i think we can all agree that there is something

, as the recent end of the mbs purchase program does not appear to have had significant adverse effects in mortgage markets. a second issue involves the effects of the large volume of reserves created as we purchased assets. the federal reserve has funded its securities purchases by crediting the accounts that banks hold with us. in explanations of our actions during the crisis, we have focused on the effects of our purchases on the prices of the assets that we bought and on the spillover to the prices of related assets, as i have just done. the huge quantity of bank reserves that were created has been seen largely as a byproduct of the purchases that would be unlikely to have a significant independent effect on financial markets and the economy. this view, however, is not consistent with the simple models in many textbooks or the monetarist tradition in monetary policy, which emphasizes a line of causation from reserves to the money supply to economic activity and inflation. according to these theories, extra reserves should induce banks to diversify into additional lending and purchases of securities, reducing the cost of borrowing for households and businesses, and so should spark an increase in the money supply and spending. to date, this channel does not seem to have been effective : interest rates on bank loans relative to the usual benchmarks remain elevated, the quantity of bank loans is still falling, and money supply growth has been subdued. banks ’ behavior appears more consistent with the standard keynesian model of the liquidity trap, in which demand for reserves becomes perfectly elastic when short - term interest rates approach zero. but the portfolio behavior of banks might shift as the economy and confidence recover, and we will need to watch and study this channel carefully. another uncertainty deserving of additional examination involves the effect of large - scale purchases of longer - term assets on inflation expectations. the more we buy, the more reserves we will ultimately need to absorb, and the more assets we will ultimately need to dispose of before the conduct of monetary policy, the behavior of interbank markets, and the federal reserve ’ s balance sheet can return completely to normal. as a consequence, these types of purchases can increase inflation expectations among some observers who may see a risk that we will not reduce reserves and raise interest rates in a timely fashion. so far, longer - term inflation expectations have generally been well anchored over the past few years of unusual federal reserve actions. however, many unsettled issues remain regarding the treasury yields also declined notably on december 1, 2008, following a