What Was the Primary Cause of the Current Financial Crisis?

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  • Topic: Debt, Fair value, Finance
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BAO3309 ADVANCED FINANCIAL ACCOUNTING
Semester 1, 2013

INDIVIDUAL ASSIGNMENT – 20% (Due date week 9) Please contact your local lecturer. “What was the primary cause of the current financial crisis? Sub-prime mortgages, credit default swaps, or excessive debt? None of those, says Steve Forbes, chairman of Forbes Media and sometime political candidate. In his view, mark-to-market accounting was "the principal reason" that the U.S. financial system melted down in 2008. Do accounting rules actually pack such a wallop? For readers not schooled in financial jargon, marking to market is the practice of revaluing an asset quarterly according to the price it would fetch if sold on the open market, regardless of what was actually paid for it. Because the practice allows for no outdated or wishful-thinking valuations, it is a key component of what is known as fair value accounting. And it is at the centre of the hottest accounting debate in decades. Many bankers pilloried fair value accounting when the sudden seize-up of credit markets in the fall of 2008 drove the clearing prices for key assets held by their institutions to unprecedented lows. Economist Brian Wesbury represented the views of that group when he declared, "Mark-to-market accounting rules have turned a large problem into a humongous one. A vast majority of mortgages, corporate bonds, and structured debts are still performing. But because the market is frozen, the prices of these assets have fallen below their true value."” Pozen (2009, p 85)
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