Did Fair-Value Accounting Contribute to the Financial Crisis?

Abstract

The recent financial crisis has led to a major debate about fair-value accounting. Many critics have argued that fair-value accounting, often also called mark-to-market accounting, has significantly contributed to the financial crisis or, at least, exacerbated its severity. In this paper, we assess these arguments and examine the role of fair-value accounting in the financial crisis using descriptive data and empirical evidence. Based on our analysis, it is unlikely that fair-value accounting added to the severity of the 2008 financial crisis in a major way. While there may have been downward spirals or asset-fire sales in certain markets, we find little evidence that these effects are the result of fair-value accounting. We also find little support for claims that fair-value accounting leads to excessive writedowns of banks’ assets. If anything, empirical evidence to date points in the opposite direction, that is, towards overvaluation of bank assets.

Keywords: Mark-to-market accounting, Financial institutions, Liquidity, Financial crisis, Banks, Financial regulation, Procyclicality, Contagion

JEL Classification: G14, G15, G30, K22, M41, M42