bank regulation , financial crisis , fair value accounting , IFRS , regulatory capital , recapitalization
Abstract:
Regulators frequently relax accounting rules during afinancial crisis as a meansof regulatory forbearance. The new accounting options provide banks with an opportunityfor an accrual-based increase in their regulatory capital. The use of such an accountingoption helps reduce the costs of government interventions such as bailouts and avoidthe dilution of existing shareholders’ownership rights. We examine the introduction of thereclassification option forfinancial assets during the 2008financial crisis and study the posi-tion of accrual-based options in the pecking order of banks’recapitalization measures. Thefindings suggest that the accrual-based increase in regulatory capital is temporary and doesnot provide permanent relief. Consistent with the long-term costs of accrual-based measures, investors perceive the accounting choice as a negative signal. If banks do not complement their use of the accounting option by other corrective actions that result in a real capitalincrease and a liquidity injection, they continue to suffer from low capitalization andfinancial difficulties in the following years. Ultimately, government interventions in accountingregulation are unlikely to offer a sustainable solution to capital shortfalls in the banking sector if they are not supported by the concurrent enforcement of real corrective actions.
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