Accounting Discretion of Banks During a Financial Crisis

Luc Laeven and Harry P. Huizinga

No 09/207, IMF Working Papers from International Monetary Fund

Abstract: This paper shows that banks use accounting discretion to overstate the value of distressed assets. Banks' balance sheets overvalue real estate-related assets compared to the market value of these assets, especially during the U.S. mortgage crisis. Share prices of banks with large exposure to mortgage-backed securities also react favorably to recent changes in accounting rules that relax fair-value accounting, and these banks provision less for bad loans. Furthermore, distressed banks use discretion in the classification of mortgage-backed securities to inflate their books. Our results indicate that banks' balance sheets offer a distorted view of the financial health of the banks.

Keywords: Accounting; Asset management; Asset prices; Bank accounting; Bank regulations; Banks; Financial crisis; Housing prices; Investment; Liquidity management; Real estate prices (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-acc, nep-ban, nep-bec, nep-eff, nep-reg, nep-rmg and nep-ure
Date: 2009-09-28
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Working Paper: Accounting discretion of banks during a financial crisis (2009)
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