Advertisement

Review of Accounting Studies

, Volume 22, Issue 4, pp 1698–1731 | Cite as

The IFRS option to reclassify financial assets out of fair value in 2008: the roles played by regulatory capital and too-important-to-fail status

  • Peter Fiechter
  • Wayne R. LandsmanEmail author
  • Kenneth Peasnell
  • Annelies Renders
Article

Abstract

Amendment of IAS 39 by the IASB in 2008 provided an option to reclassify investments from fair value to historical cost. We predict that too-important-to-fail (TITF) banks took less advantage of this option because the political protection they enjoyed insulated them from regulatory pressure. Banks that did not enjoy this protection had greater reason to make use of this option since doing so would protect their Tier 1 capital. As predicted, findings reveal that TITF banks made less use of the reclassification option to protect their Tier 1 capital and there is a significant moderating influence of TITF status on the incentive to reclassify investments for banks with lower regulatory capital. This finding is consistent with TITF banks placing less weight on protecting regulatory capital and thereby retaining flexibility to sell assets. Our findings provide evidence that accounting choices are affected by the importance of banks to their economies.

Keywords

Too important to fail Fair value accounting Bank regulation Financial crisis 

JEL classification

G14 G21 G28 M41 M48 

Notes

Acknowledgements

We thank Patricia Dechow (editor), two anonymous reviewers, Justin Chircop, Sunhwa Choi, John Gallemore, Thorsten Sellhorn, Christian Stadler, and workshop participants at the Cambridge Financial Accounting Symposium, the EAA Annual Congress, the Joint Workshop of Deutsche Bundesbank and the Research Task Force of the Basel Committee on Banking Supervision for helpful comments. Annelies Renders acknowledges financial support from the NWO (Veni Research Grant 016.135.086).

References

  1. Acharya, V.V., & Ryan, S.G. (2016). Banks’ financial reporting and financial system stability. Journal of Accounting Research, 54, 277–340.Google Scholar
  2. Acharya, V. V., & Steffen, S. (2015). The “greatest” carry trade ever? Understanding Eurozone bank risks. Journal of Financial Economics, 115, 215–236.CrossRefGoogle Scholar
  3. Admati, A. R., Demarzo, P. M., Hellwig, M. F., & Pfleiderer, P. (2013). Fallacies, irrelevant facts, and myths in the discussion of capital regulation: Why bank equity is not expensive. Working paper, Rock Center for Corporate Governance at Stanford University.Google Scholar
  4. Ai, C., & Norton, E. (2003). Interaction terms in logit and probit models. Economics Letters, 80, 123–129.CrossRefGoogle Scholar
  5. Ball, R., Kothari, S. P., & Robin, A. (2000). The effect of international institutional factors on properties of accounting earnings. Journal of Accounting and Economics, 29, 1–51.CrossRefGoogle Scholar
  6. Barth, J. R., Caprio Jr., G., & Levine, R. (2012). Guardians of finance: Making regulators work for us. Cambridge: MIT Press.Google Scholar
  7. Basel Committee on Banking Supervision (BCBS) (2006). Basel II: International convergence of capital measurement and capital standards: a revised framework, Comprehensive version. Google Scholar
  8. Beatty, A., Ke, B., & Petroni, K. (2002) Earnings management to avoid earnings declines across publicly and privately held banks. The Accounting Review, 77, 547–570.Google Scholar
  9. Becher, D., Campbell II, T., & Frye, M. (2005). Incentive compensation for bank directors: The impact of deregulation. Journal of Business, 78, 1753–1777.CrossRefGoogle Scholar
  10. Bischof, J., Bruggemann, U., & Daske, H. (2014). Fair value reclassifications of financial assets during the financial crisis. Working paper, University of Mannheim.Google Scholar
  11. Brewer III, E., & Jagtiani, J. (2007). How much would banks be willing to pay to become ‘too-big-to-fail’ and to capture other benefits. Federal Reserve Bank of Kansas City Working paper no. 07-05.Google Scholar
  12. Chen, C., Steiner, T., & Whyte, A. (2006). Does stock option-based executive compensation induce risk-taking? An analysis of the banking industry. Journal of Banking & Finance, 30, 915–945.CrossRefGoogle Scholar
  13. Committee of European Banking Supervisors (CEBS) (2007). Analytical report on prudential filters for regulatory capital. October 2007.Google Scholar
  14. Demirgüc-Kunt, A., & Detragiache, E. (2002). Does deposit insurance increase banking system stability? An empirical investigation. Journal of Monetary Economics, 49, 1373–1406.CrossRefGoogle Scholar
  15. Demirgüc-Kunt, A., Kane, E. J., & Laeven, L. (2008). Determinants of deposit-insurance adoption and design. Journal of Financial Intermediation, 17, 407–438.CrossRefGoogle Scholar
  16. Fahlenbrach, R., & Stulz, R. (2011). Bank CEO incentives and the credit crisis. Journal of Financial Economics, 99, 11–26.CrossRefGoogle Scholar
  17. Fiechter, P. (2011). Reclassification of financial assets under IAS 39: Impact on European banks' financial statements. Accounting in Europe, 8, 49–67.CrossRefGoogle Scholar
  18. Financial Accounting Standards Board. (1995). Statement of financial accounting standards (SFAS) no. 123: Accounting for stock-based compensation. Norwalk: FASB.Google Scholar
  19. Financial Accounting Standards Board. (1998). Statement of financial accounting standards (SFAS) no. 133: Accounting for derivative instruments and hedging activities. Norwalk: FASB.Google Scholar
  20. Financial Accounting Standards Board. (2006). Statement of financial accounting standards (SFAS) no. 157: Fair value measurements. Norwalk: FASB.Google Scholar
  21. Financial Accounting Standards Board. (2007). Statement of financial accounting standards (SFAS) no. 159: The fair value option for financial assets and liabilities. Norwalk: FASB.Google Scholar
  22. Financial Stability Board (FSB) (2011). Policy Measures to Address Systemically Important Financial Institutions. November 2011.Google Scholar
  23. Goldman, E., Rocholl, J., & So, J. (2009). Do politically connected boards affect firm value? The Review of Financial Studies, 22, 2331–2360.CrossRefGoogle Scholar
  24. Gorton, G. (2010). Slapped by the invisible hand: The panic of 2007. Oxford: Oxford University Press.Google Scholar
  25. Gorton, G., & Metrick, A. (2012). Securitized banking and the run on repo. Journal of Financial Economics, 104, 425–451.CrossRefGoogle Scholar
  26. Gorton, G., & Souleles, N. (2006). Special purpose vehicles and securitization. In R. Stulz & M. Carey (Eds.), The Risks of Financial Institutions (pp. 549–597). Chicago: University of Chicago Press.Google Scholar
  27. Greenspan, A. B. (1998). The role of capital in optimal banking supervision and regulation. Federal Reserve Bank of New York Policy Review 4 163Y168.Google Scholar
  28. Huizinga, H., & Laeven, L. (2012). Bank valuation and accounting discretion during a financial crisis. Journal of Financial Economics, 106, 614–634.CrossRefGoogle Scholar
  29. IASB Press Release (2008). IASB amendments permit reclassification of financial instruments. London, 13 October.Google Scholar
  30. International Accounting Standards Board (IASB). (2005). Consolidated and Separate Financial Statements. London: International Accounting Standard 27 December 2003.Google Scholar
  31. International Accounting Standards Board (IASB). (2008). Reclassification of financial assets – Amendments to IAS 39 financial instruments: Recognition and measurement and IFRS 7 financial instruments. London: Disclosures Amendment to the Standards.Google Scholar
  32. Kareken, J., & Wallace, N. (1978). Deposit insurance and bank regulation: A partial-equilibrium exposition. Journal of Business, 51, 413–438.CrossRefGoogle Scholar
  33. Kholmy, K., & Ernstberger, J. (2010). Reclassification of financial instruments in the financial crisis – Empirical evidence from the European banking sector. Working paper: Ruhr-University Bochum.Google Scholar
  34. Laeven, L., & Valencia, F. (2010). Resolution of banking crises: The good, the bad, and the ugly. IMF working paper 10/146.Google Scholar
  35. Landsman, W., Peasnell, K., & Shakespeare, S. (2008). Are asset securitizations sales or loans? The Accounting Review, 83, 1251–1272.CrossRefGoogle Scholar
  36. Leuz, C., Nanda, D., & Wysocki, P. (2003). Earnings management and investor protection: An international comparison. Journal of Financial Economics, 69, 505–527.CrossRefGoogle Scholar
  37. Lucas, D., & McDonald, R. (2009). Valuing government guarantees: Fannie and Freddie revisited. Working paper, Northwestern University.Google Scholar
  38. Merton, R. C. (1977). An analytic derivation of the cost of loan guarantees and deposit insurance: An application of modern option pricing theory. Journal of Banking & Finance, 1, 3–11.CrossRefGoogle Scholar
  39. Ng, J., & Roychowdhury, S. (2014). Do loan loss reserves behave like capital? Evidence from recent bank failures. Review of Accounting Studies, 19, 1234–1279.CrossRefGoogle Scholar
  40. Paananen, M., Renders, A., & Shima, K. (2012). The amendment of IAS 39: Determinants of reclassification behavior and capital market consequences. Journal of Accounting, Auditing and Finance, 27, 208–235.CrossRefGoogle Scholar
  41. Stern, G., & Feldman, R. (2009). Addressing TITF by shrinking institutions: An initial assessment. The Region, Federal Reserve Bank of Minneapolis.Google Scholar
  42. Wilson, L., & Wu, Y. W. (2010). Common (stock) sense about risk-shifting and bank bailouts. Financial Markets and Portfolio Management, 24, 3–29.CrossRefGoogle Scholar
  43. Wooldridge, J. M. (2009). Introductory econometrics: A modern approach (4th ed.). Massachusetts: MIT Press.Google Scholar

Copyright information

© Springer Science+Business Media, LLC 2017

Authors and Affiliations

  • Peter Fiechter
    • 1
  • Wayne R. Landsman
    • 2
    Email author
  • Kenneth Peasnell
    • 3
  • Annelies Renders
    • 4
  1. 1.Faculty of Economics and BusinessUniversity of NeuchatelNeuchatelSwitzerland
  2. 2.Kenan-Flagler Business SchoolUniversity of North Carolina at Chapel HillChapel HillUSA
  3. 3.The Management SchoolLancaster UniversityLancasterUK
  4. 4.Maastricht University School of Business and EconomicsMaastrichtThe Netherlands

Personalised recommendations