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Accounting Failures 'Exacerbated Banking Crisis'

by Jason Gorringe,, London

06 December 2011

A new report, assessing the causes of the global financial crisis, claims that shortcomings in the accounting standards issued by the International Accounting Standards Board were a contributing factor to the instability experienced in the UK and Irish banking sectors, and subsequent taxpayer-funded bailouts.

The report, from the Local Authority Pension Fund Forum, says that International Financial Reporting Standards (IFRS) led to policymakers 'misdiagnosing' the problem as one of liquidity rather than solvency.

The report argues that a relatively simple error was introduced into the financial accounting system in 2005 under IFRS, with severely detrimental effects on financial governance and regulatory oversight.

“LAPFF believes that in practice IFRS has run contrary to the 'true and fair' view in accounting, and painted a false picture of the solvency of financial institutions," the Forum stated. "Banks that appeared to be solvent within a few months required an enormous amount of taxpayer support in order to survive. However shareholders have not, to date, seriously questioned why the weak position of the banks was not flagged in their financial reporting. LAPFF's report is intended to highlight this major fault.”

The Forum's analysis says that the UK and Ireland were at risk because they adopted IFRS more comprehensively than other parts of the EU. As such, they were amongst the hardest hit in the first wave of the crisis. The Forum research estimates that the total loss of capital of UK and Irish banks has been in excess of GBP150bn (USD235bn), with investor losses even greater.

However, in contrast to popular understanding, the refinancing of the UK and Irish banking systems has been predominantly to make good losses on ordinary lending, rather than investment bank trading book losses.

LAPFF chair, Ian Greenwood said: “The failure of several major UK and Irish banks had a major impact on our members in particular, and market confidence in general. Therefore it is vital that we understand precisely what went wrong, including why the failures were initially misdiagnosed as a problem of liquidity, rather than a capital crisis. Our analysis clearly points to the fact that flawed international financial reporting standards played a significant contributory role. This implies that significant reform of both accounting standards and the standard setters is required.”

TAGS: tax | Ireland | law | accounting | banking | United Kingdom | International Accounting Standards Board (IASB) | international financial reporting standards (IFRS) | financial reporting | standards

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