My column today chronicles how Spanish banks for years violated accounting rules by using a technique called dynamic provisioning, with the European Union's full encouragement. The piece quotes extensively from the transcript of an April 2009 meeting of the monitoring board that oversees the trustees for the London-based International Accounting Standards Board.
Here's a longer excerpt from that transcript, which offers a revealing look at the behind-the-scenes debate about the proper role of accounting standards in global finance. The discussion here is between Charlie McCreevy, then the EU's commissioner for financial services, and Robert Glauber, one of the accounting board's trustees. Glauber is a former chief executive officer of the National Association of Securities Dealers and teaches at Harvard's Kennedy School of Government.
McCreevy, who at the time was the chief enforcer of EU laws affecting banking and markets, said he knew Spain's banks were violating International Financial Reporting Standards -- and that this was a good thing. Glauber was aghast.
Glauber: Perhaps I misunderstood Commissioner McCreevy. I thought he said that the reason Spanish banks had been more successful than others in navigating the financial crisis was that he had permitted them to violate accounting standards. Was that right?
McCreevy: I didn't permit it, they just did it. But logically ...
Glauber: Well, you didn't pursue them.
McCreevy: We hadn't arrived at the situation of bringing infringement proceedings against them, but logically, that's what I should have done.
Glauber: Well, I just ... I believe in the U.S. where we've had banks that have had difficulties navigating the financial crisis, my own personal view is that they would not have been more successful had we allowed them -- our regulators allowed them to violate accounting principles. I just don't think that's true, and I don't know where the evidence is. In fact, markets work best when they have confidence in the numbers that institutions, businesses publish, not where they have no confidence in those numbers. And you can't fool the markets. ... So I don't believe, whatever the reason is for the Spanish banks having navigated this crisis better, it wasn't that you didn't act to prevent them from violating accounting rules.
McCreevy: They didn't implement IFRS and our regulations said from the 1st January 2005 all publicly listed companies had to implement IFRS. The Spanish regulator did not do that and he survived this -- his banks have survived this crisis better than anybody else to date.
Glauber: I don't mean to be criticizing you for acting or not acting, but I don't think that's the reason they survived better, that they failed to honor accounting rules.
McCreevy: No, I'm making the point is that the rules did not allow the dynamic provisioning that the Spanish banks did, and the Spanish banking regulator insisted that they still have the dynamic provisioning. And they did so, but I strictly speaking should have taken action against them for doing this responsible set of actions. That's the point I'm making is the ludicrousy in my view of some of these particular rules. The Spanish ... and it's worked pretty well for them.
Glauber: But, Charlie...
As we now know, violating the accounting rules didn't work so well for Spanish banks in the end, although it did help them mask their losses for a while. Spain is seeking $125 billion from its European neighbors to bail them out.