New improved (?) accountancy rules

Accountancy is under huge pressure: it’s widely felt that inadequacies in the way firms have kept their books contributed to the credit crunch mayhem of last autumn. That’s probably a bit unfair, but what is seen to be the problem and what are the proposed solutions?

The International Accounting Standards Board (IASB), which sets rules for accountants outside America has been forced to tackle the idea of fair-value accounting — the practice of valuing financial assets at market prices. Politicians (encouraged by banks) think that was a big factor in the credit crunch. As the value of financial assets fell, bank valuations fell too. This was a big part of the panic.

It’s widely agreed that the existing standards are a shambles, a patchwork of inherited rules riddled with confusion. They mix market values with the more traditional practice of recording the value of assets at their cost. There are also several different ways of recognising losses. The result is that the balance sheets of different banks are not always directly comparable.

IASB’s proposed solution is to put all financial assets into two buckets. Loans will be held at cost, provided banks can show they will hold them for the long term. Everything else, including equities and more complicated financial assets will be held at market value. Companies will be allowed to start applying the new rules from the end of this year, and will be obliged to by 2012.

This is far simpler than the existing system, but it will be tricky to define the boundary between the two types of financial asset. What is emerging however is an increasing willingness to merge international and American accounting into a single rulebook governed by an independent body.