In response, and echoing Roosevelt in 1938, President Bush granted the SEC authority to suspend fair value rules. Although this authority was not invoked, it demonstrated a willingness to provide system-wide forbearance through fair value accounting rules. Today, the self-same cycle is in motion. During the long pre-crisis boom, fair value principles gained ground, in particular in the valuation of debt, equity and derivatives: in the US, through Statement of Financial Accounting Standard 157 (SFAS 157); internationally, through International Accounting Standard 39 (IAS 39). As in the roaring ‘20s, rising asset prices, marked to market, inflated bank profits and balance sheets. Between 2000 and 2007, major international banks recorded accumulated gains in their trading book totalling over £ billion. But as the crisis tide has turned, with falling asset prices and failing banks, so too has the fair value debate. In 2008, under intense pressure from an ailing banking community, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) eased back on fair value accounting rules. For example, banks were allowed to switch financial instruments from trading to holding to avoid mark-to market requirements. So, historically, fair value accounting principles have gained ground when the going has been good, and lost it when it has got tough. From a financial stability perspective, this is a cause for concern. To see why, consider how banks’ balance sheets then appear to investors. During the asset upswing, fair value gains ground. Mark-to-market gains are booked as profits.
The May meeting is part of the Committee’s ongoing commitment to ensure that the Core Principles remain current and relevant to bank supervisors worldwide. Let me move on to the Basel Committee’s initiative to revise the 1988 Accord. As you know, capital has played, and continues to play, an important role in the supervisory tool kit. Adequate capital helps ensure that shareholders monitor the risk of financial institutions, and that management puts in place and maintains appropriate oversight mechanisms to help prevent problems from surfacing in the first place. Should an institution experience difficulties, capital serves as a buffer to absorb losses and reduce the risk of spillover from a problem institution to other financial institutions. The primary tool of capital regulation currently is the set of minimum ratios that were devised in 1988 by the Basel Committee on Banking Supervision. They were set forth in an agreement known as the Basel Accord, and were adopted, among other reasons, to address the slide in international capital levels that was occurring over the previous decade. The Accord was clearly a milestone achievement for the first time, supervisors in G10 countries were able to use a common yardstick for assessing banks’ capital adequacy. But the Accord has a number of serious shortcomings. For example, it does not adequately differentiate among degrees of credit risk and, as a result, banks have had incentives to take on higher  7  BIS Review 27/2000  risk exposures within broad risk categories.