Last week, Henry Paulson offered up a spirited defense of mark-to-market accounting, also known as "fair-value accounting." Paulson made several points. First, we can't just throw "fair-value" accounting out the window because of some illiquid markets in a crisis. Second, you can't run an investment bank without mark-to-market. Third, we need to recognize the losses and move on. Fourth (I'm making this one up), stop whining you damn crybabies.
Continue reading below
Now maybe our Treasury chief is right, particularly on point four. But I would add a few caveats. No one is saying -- well, hardly anyone -- that we should just toss out mark-to-market, giving the banks a fat break and move on. The question is more subtle than that: Does mark-to-market need to be applied universally, to all assets classes and financial instruments? Is the prudent duration for all assets a short-term market standard, or just for some? And do the standards or indices we now have work in illiquid markets under stress, or are they prone to failure or manipulation? (The British Bankers' Association says it will make "governance" changes to fix the wobbly LIBOR index, meaning nothing is really changing.) Moreover, last I checked, the entire financial world did not consist of investment bank. (Thank god for that.) There are insurers out there, retail banks, private equity shops, money managers. There is a diversity of financial providers that we are trying to jam through the keyhole of mark-to-market accounting. And, yes, given that investment banks make their money (or lose it) in short-term markets every day, it is completely appropriate to apply strict mark-to-market to them.
The fact is, mark-to-market is completely appropriate to any speculative enterprise. And I would argue that the spread of mark-to-market to all corners of the financial world represents not only a blurring of the once-bright line between investment and speculation, but its obliteration. Speculation has won. And the notion that the best snapshot of reality is the one hatched by the markets every day has won. Warren Buffett's notion that value only emerges over time is nearly an anachronism, not because he's not making money -- he is -- or that folks don't still practice value investing, but that the gods that oversee our financial system have abandoned it for the daily twitch of the Dow, or LIBOR or VAX, and the daily demands of activists and traders.
With that triumph comes the usual handy-dandy change in nomenclature. Now "fair-value accounting" has been around for awhile, but increasingly its patrons are using it to nudge aside the far clearer and more precise term "mark-to-market." "Fair value" contains a kind of moral imperative. Mark-to-market lays its weary head on the markets. Fair value, is, of course, by definition, fair. Who can argue with that? - Robert Teitelman
