Letters: The next financial bubble

New accounting rules risk creating the next financial bubble
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The Independent Online

Bankers have for several years been using mathematical models to value their assets, and as a result every bank in the western world has been declaring super profits and paying massive bonuses. It appears that only the boy seeing the naked emperor realised that one gigantic bubble was about to burst. Now everyone knows it has.

What most people haven't worked out yet is that there is a much larger bubble forming and the financial world seems oblivious to it. This bubble is the new International Financial Reporting Standards (IFRS), which affects all public limited companies, not just banks.

Under historical cost accounting there were several safeguards, the most important one being the prudence concept. This meant that assets in the balance sheet should not be over-stated, liabilities should not be under-stated and profit could only be taken in the profit and loss account when realised through an actual transaction. Assets were recorded at their historical cost, but written down by charging the profit and loss account where their value fell below that cost.

IFRS has swept all these safeguards away. Assets are now valued at "fair value", often using the same mathematical techniques that destroyed major banks. If "fair value" assets are deemed to be higher than they were before, then the difference is taken in the income statement (new name for the profit and loss account) as a profit, even though such profit is unrealised. Granted, if "fair value" asset values fall, then a loss will be taken in the income statement. The problem though is the "fair value" calculation, because it is based on mathematical modelling and opinion, rather than fact. Apart from creating unwarranted volatility, it is fantasy accounting in the same way that bankers had fantasy assets.

When we recover from the credit crunch, asset values will increase (more so on a speculative fair-value basis) and this will lead to some companies declaring massive fantasy profits. If the directors then richly reward themselves and their shareholders, based on these profits, then ordinary companies will find themselves in the same bind the banks find themselves in today. Bring back prudence!

Malcolm Howard

Lecturer in Financial Management, University of Surrey

Banks to blame for reckless lending

Angela Knight, Chief Executive of the British Bankers' Association, defends our banks in the light of the current economic problems. She says that they are well run and the situation is solely due to a US firm getting into difficulties ("Just how bad is it going to get?", 17 September). But she later gives the game away when she states, "We have now banks lending responsibly." This of course raises the question why they were not lending responsibly in the first place.

I would welcome her explanation as to how lending people 10 times their annual income and/or lending amounts well in excess of the market value of the property could be viewed as sound financial judgement. Surely these policies were highly risky and asking for trouble in the event of an economic downturn. Not only that, they fuelled the excessive rises in house prices.

I believe that the chief executives and boards of our lending institutions have a lot to answer for in relation to our current economic difficulties, and it is disingenuous of Angela Knight to suggest otherwise.

Keith O'Neill

Shrewsbury

When governments are falling over themselves to rescue financial institutions with our money, I propose that all taxpayers are given an extra form to be completed with our returns which gives us the option to ensure that banks which have refused to help us as individuals, or indeed our businesses when we've gone through bumpy times, are entirely deprived of our individual assistance.

This measure would surely help focus the minds of those bank managers who are perennially bloody-minded, showing absolutely no understanding of unsalaried entrepreneurs and those others whose needs don't stack up to a whole hill of beans, bank managers who by and large couldn't hack it on their own but think we now have a duty to subsidise their living to the tune of hundreds of pounds each.

Paul Dunwell

Alton, Hampshire

Stephen Foley's explanation of leverage is very clear (16 September). He could have added that, by virtue of hugely complex financial instruments, banks essentially invest in an "undertaking of great advantage, but nobody to know what it is".

It now turns out that they were investing largely in each other (both through lending and stock purchase), and indeed indirectly in themselves. Stocks rise, stock owners become rich, and all is well until someone asks how this wealth is represented in the physical world. It then becomes apparent that the emperor has no clothes, the only actual money is still the original £1 and the bubble bursts.

J K Galbraith reports J P Morgan (as I recall) as asking "Why didn't someone tell me about banking before?" More to the point, why didn't someone tell the regulators?

Rachael Padman

Dalham, Suffolk

We should be hearing far more about the role of the credit rating agencies, which are at the root of the current financial mayhem.

Effectively in collusion with investment institutions, they devised esoteric "Monte Carlo" rating techniques to pass off ludicrously complex and obscure financial products as being low-risk when in fact they contained a great deal of high-risk "toxic" debt, such as sub-prime mortgages. Those involved made vast profits from the associated fees and commissions at the expense of millions of unwary investors, as a consequence of which numerous lawsuits have been launched.

Unless the activities of these rating agencies and investment institutions are investigated and regulated, and investment products are made to be far simpler and more transparent, history will repeat itself.

Keith Fisher

Oxford

I wondered if, in order to minimise the rise in the cover price, The Independent had taken to publishing coded messages on behalf of clandestine agencies. I was flummoxed by Ivor Morgan's conjunction of banking collapse with the Kondratieff Cycle Society (letter, 16 September), until I got on my bike and did some research.

I doubt that the present chaos in banking circles has any cyclical characteristics, and that the origin lies in the 1940s and 50s, even though those decades saw the advent of high-speed communication which has facilitated the rapid trading of equity and the corrosive speculation we are now witnessing.

The real problem lies in lack of self-control, in meddling in things not fully understood and in letting belief take precedence over evidence. The perils of these frailties have been catalogued ever since man put chisel to stone, and still we do not learn. Surely creationists must admit God was having a bad day at the office when mankind was being designed.

Tony Taylor

Church Minshull, Cheshire

In view of recent events, can I assume that no longer will we be lectured by banks and financial institutions about reckless borrowing and spending and the need for sound financial prudence?

David Briggs

Barnstaple, Devon

Crisis exposes New Labour

What a sad state our party-political system is in, with a "Labour" party practically as right-wing as the Tories. It demonstrates a real weakness in our democratic system of government.

A true socialist party would be up in arms about the global economic situation and capitalist systems ridden with greed and incompetence. The incompetence should have been detected and constrained by effective regulatory mechanisms.

The collapse was caused by financial institutions and their staff being under the delusion that their irresponsible trading practices could continue, reaping ever bigger corporate and personal fortunes. The greed of both institutions and staff led them to take reckless risks. A socialist government would ensure that regulation of our financial markets was effective and strictly enforced. It would also remove the incentives to excessive greed by means of a sensible taxation regime that put the health and stability of the national economy before private profit. More punitive tax rates for the very highest earners are needed, not for the returns to the exchequer, but to curb both the increasing irresponsibility evident in commerce, particularly in the financial sector, and the growing tendency to reward unjustifiably, even for complete failure.

Bring back real Labour.

Peter Vaswani

Harrow, Middlesex

The obvious failure of the free-market model, made plain by the collapse of Lehman and now the US taxpayer bailout of AIG insurance, is the real reason why this latest crop of New Labour rebels (not to be confused with the Labour left MPs who have always opposed the "New" Labour concept) are calling for a leadership election.

Unless any future leadership contest is about turning the Labour Party back to what it was formed for, and dispensing with everything "New"' Labour stands for, at a time when Clause 4 is more relevant than ever before, it will all be a waste of time.

Nick Vinehill

Snettisham, Norfolk

Danger: men trapped at work

Yasmin Alibhai-Brown (8 September) acknowledges that in some ways men are more trapped in a workaholic culture than women. When it comes to downsizing and work-life balance she asserts that usually a man's "own masculinity does not allow it". She does not however question how this "masculinity" has been constructed, and instead asserts that male slavery to work is a "sad situation" which "we have to blame white men for".

What is being missed is the possibility that the projections and expectations about "being male" boys receive from mothers, and then men from women, might contribute to this "sad situation". It is surely better to understand the stuckness of men's relationship to the world of work as part of a loop of expectations and assumptions that women, consciously or unconsciously, play a large part in sustaining.

Phil Goss

Kirkby Lonsdale, Cumbria

A free market for bunkum

The devaluation of our intellectual currency so clearly described by Terence Blacker ("Welcome to the age of total bunkum", 16 September) is part of the same process as the collapse of banking. As Elizabeth I's finance minister pointed out in 1558, "Bad money drives out good." Debased ideas, like debased currencies, are so much easier to grasp and take much less effort, so the fraudsters benefit and we all suffer.

There needs to be more regulation of the possibilities for bunkum, through open challenge and debate, as there does in the stock market. The reluctance to challenge any ideas, be they radical, violent interpretations of the Koran, Noel Edmonds' view in immigration, or the nonsense of "creationism", is just the same as allowing a major bank to get rich on spurious derivatives.

Professor David Canter

School of Psychology, The University of Liverpool

Cool ways to cut energy bills

I agree with Doraine Potts (letters 15 September) that extra clothing is an easy way to cut one's home energy bills, but I cannot see how switching off the heater in the car can save fuel. The engine produces heat which needs to be dissipated. The heater control lets you decide whether to have the heat directed into the car, or outside via the radiator.

Perhaps your correspondent is thinking of air-conditioning, which does use extra fuel because it relies on an extra pump driven by the engine. The answer to saving fuel on hot days is obviously to leave the air-conditioning off and remove one's clothes.

Justin Brett

Clonakilty, Co Cork

Briefly...

Price of fish

The managing director of Waitrose is reported as saying the price of fish has fallen by 6 per cent because of an oversupply (12 September). At the same time, you report on the catastrophic overfishing that will soon see many fish disappear from our seas – and our plates. Responsible retailing?

Jerry Lockspeiser

London WC2

Fair to all faiths

Sadiq Khan MP is right to propose a move to give the Muslim faith equality, but not before Iran gives the same rights to Christian converts there. "One rule for all", so perhaps he might campaign there first, and when successful, then come back to Britain with his proposal.

Bob Miller

Chelmsford, Essex

Thatcher is innocent

The Information's television preview (13 September) described the film Scum as "a searing indictment of institutional brutality, specifically of borstals in Thatcher's Britain". The film was released in September 1979, only four months after the Iron Lady came to power, and, as the preview acknowledged, was based on a play written two years earlier. It seems a little harsh to blame her for the situation. Indeed, it was under Thatcher's watch that the borstal system was dismantled in 1983. I never thought I'd be springing to the defence of Mrs T. It must be middle age.

Stan Broadwell

Bristol

Prince of the air

Having toiled for several years through the system to a successful conclusion, and knowing how difficult it can be, I think it might be better for the media to report that Prince William is going to try to become a pilot in the RAF. Or is it a foregone conclusion, when for us mere mortals it was not?

Laurence Williams

Thetford, Norfolk

Art of making money

The Damien Hirst art auction demonstrates one thing very clearly: this art has very much more to do with making money than with making art. Perhaps we should name it neoliberal art.

Brian Abbott

Cork, Ireland

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