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Home > Blogs > Anthony Harrington > IASB grapples with “weapons of mass destruction”

IASB grapples with “weapons of mass destruction”

Finance Blogger: Anthony Harrington Anthony Harrington

On November 12th the International Accounting Standards Board (IASB) issued its latest International Financial Reporting Standard (IFRS), IFRS 9 on Financial Instruments. This standard is the first part of a three-phase project designed to replace the now-outdated IAS 30 Financial Instruments: Recognition and Measurement.

Why is this significant? Well, IFRS 9 addresses the classification and measurement of financial assets. Some examples of financial assets would be the credit default swaps (CDSs) that blew the US insurance giant AIG out the water (dead but for a $89 billion bailout by the US government), or the collateralized debt obligations (CDOs) that blew holes in various bank, hedge fund, and institutional balance sheets. So this standard is particularly timely.

The IASB had promised the G20 group of nations that it would have a revised Financial Instruments standard out in time for companies to prepare their 2009 year-end accounts, and with this first phase release, it has met that obligation. There are two other phases to this. The IASB has just published an Exposure Draft calling for comment on its views on the impairment of financial assets, and plans to have an IFRS on this some time in 2010. The third phase will consist of hedge accounting and the IASB is still formulating its views here.

Let us quickly point out here that drawing up objective rules for deciding on a value for impaired financial assets will be a neat trick. Trying to value their increasingly impaired derivatives after the fall of Lehman Brothers cost coach loads of bankers in many global banks hundreds and even thousands of hours of grinding work with no very satisfactory conclusion.

Some cynics at the time remarked that what was really stumping the bankers was their refusal to admit that large swathes of the so called financial assets they were sitting on had zero value, while some of the guarantees they had issued by way of CDSs were whirring up in value with eye-popping speed. That is a very unhappy position for any institution to find itself in and it is management, rather than any accounting standard, that has, ultimately, to take the blame for that state of affairs.

However, it would be a remarkable show of complacency if the standard setters did not revisit and rethink their work on financial instruments in the light of the near meltdown of the global financial system, given the role financial instruments played in the mess. The IASB is determined to avoid any such charge of complacency and has put a tremendous amount of effort into sounding opinion all round the shop in this first phase of its activity. As it says in its communiqué on the launch of IFRS 9, its opinion canvassing on the theme of financial instruments involved an “unprecedented global scale of consultation and outreach activity … Round table discussions were held in Asia, Europe and the United States. Interactive webcasts, each attracting thousands of registered participants, have been held, often on a weekly basis (and) more than a hundred meetings have been held with interested parties around the world” during the months leading up to the formulation of the standard.

This phase simply focuses on how to categorize and measure financial instruments. What to do when they are “impaired,” i.e. the other party either defaults or looks like defaulting, will be the subject of the second phase. The exposure draft, or consultation paper on this second phase was published on November 5th and the IASB intends to formulate a standard in 2010, which will become mandatory some time after 2013.

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Tags: assets , derivatives , financial crisis , IASB , IFRS
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