Establecimientos que encontramos en la zona de estudio

The root cause of the global financial crisis is usually traced back to a boom and a bust in the American housing market. Fox (2010:312) writes that during the 1990s, house prices were rising mostly due to fundamental factors such as an excessive demand for housing in certain areas. The housing market received a further boost when the Federal Reserve Bank dropped short term interest rates in the aftermath of the bursting of the technology stock market bubble. In the 2000s, house prices started to rise above the increase reasonably attributable to these fundamental factors; this excessive increase was due to the development of complex feedback mechanisms that drove prices higher and even higher. Increased house prices meant that fewer and fewer people could afford houses under the traditional underwriting standards. To keep up loan origination volumes and to feed the securitisation machinery that banks had set up (as will be discussed shortly), the banks lowered their underwriting standards, eventually advancing credit to people of doubtful credit quality (for example low-doc or no- doc loans) and on conditions that only made sense if house prices were a one-way bet. Borrowers started to realise that there was good money to be made from the housing boom; for example, by house flipping or house equity withdrawal. Consequently, the demand for more credit increased simultaneously, driving up house prices.

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Fannie Mae and Freddie Mac were not allowed to buy most subprime mortgages or any loans larger than $322 700 in 2003 (Fox, 2010:313), but they were allowed to buy mortgage- backed securities based on these loans. Wall Street investment banks stepped forward to fill this gap by packaging subprime loans into securities on which they obtained the AAA credit rating necessary for Fannie Mae and Freddie Mac and also for other investors such as pension funds. Rating agencies were conflicted in the process as they were paid by the investment banks and not by investors and the agencies assisted in many cases to slice and dice a portfolio of bad loans in such a way that it became seemingly low risk. These mortgage- backed securities offered higher returns than normal AAA instruments at superficially the same risk and therefore demand from investors increased, which increased the demand for the underlying loans, leading to increasing house prices. The drop in underwriting standards and the aggressive lending described all took place within the context of relaxed bank regulations under the assumption that markets are self-correcting.

In 2006, house prices levelled out and started to fall (Lo, 2012:153). The securities market based on these loans was initially unperturbed but in August 2007 the first serious problem emerged when a BNP Paribas money market fund froze fund redemptions. A shockwave rippled through the financial industry and central banks had to step in to keep liquidity flowing. The tide was going out and in September 2008 the investment bank Lehman Brothers declared bankruptcy and the world was on the brink of disaster. In hindsight this is regarded as the height of the global financial crisis. Central banks were able to save the banking system but five years later the world is still mired in anaemic growth.

Lo (2012) reviews 21 books written about the global financial crisis and its causes and concludes that “there is still significant disagreement as to what the underlying causes of the crisis were” (Lo, 2012:173). Indicative of the complexity of the crisis is the report of the Financial Crisis Inquiry Commission that spent 18 months and interviewed 700 witnesses and came to three different conclusions as to what caused the crisis (Lo, 2012:152). It can be argued that the Commission’s report was influenced by party politics. Thus, the Democrat members of the Commission all approved the report, whilst the Republican members of the Commission all dissented.1 Nevertheless the rest of this brief global financial crisis review

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Another interpretation is that the divide is simply a manifestation of how a different understanding of the way the economy works, can lead to different conclusions. A similar divide in worldviews becomes apparent when

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will be based on the Commission’s report as it constitutes the most detailed official account of the crisis.

The list that follows summarises the conclusions of the Commission:

• “We conclude this financial crisis was avoidable” (The National Commission on the Causes of the Financial and Economic Crisis in the United States (NCCFEC), 2011:xvii) - The crisis was not a once-off freak event. Its roots were to be found in previous actions over a number of years.

• “We conclude widespread failures in financial regulation and supervision proved devastating to the stability of the nation’s financial markets” (NCCFEC, 2011:xvii) - Markets were not self-correcting and banks could not effectively regulate themselves and so they got out of control under a policy of deregulation.

o “We conclude collapsing mortgage-lending standards and the mortgage

securitization pipeline lit and spread the flame of contagion and crisis” (NCCFEC, 2011:xxiii) - This point was put below the previous point as it is related; if regulation was effective then underwriting standards would not have deteriorated to the level that they did (regulators allowed banks to make low- doc or no-doc loans) and the securitisation pipeline would not have grown so large.

• “We conclude dramatic failures of corporate governance and risk management at many systemically important financial institutions were a key cause of this crisis”

(NCCFEC, 2011:xvii) - There were corporate governance and risk management failures in large banks because those banks took on excessive risk and shareholders did not prevent it; possibly due to the low levels of capital. Skewed incentives encouraged individuals and banks to take excessive risks.

• “We conclude a combination of excessive borrowing, risky investments, and lack of transparency put the financial system on a collision course with crisis” (NCCFEC, 2011:xix) - Banks and individuals became too indebted during the boom period to be able, safely, to take on the levels of risk that they did take on. When the crisis arrived there was no buffer. Risk was also hidden in the shadow banking industry.

• “We conclude the government was ill prepared for the crisis, and its inconsistent response added to the uncertainty and panic in the financial markets” (NCCFEC, the role of FVA in the crisis is reviewed; thus, there are those who see accounting as simply a messenger and those who see accounting as influencing economic interactions and thus the real economy.

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2011:xxi) - This conclusion is perhaps most influenced by party political considerations and this view is supported as it argues for more government oversight. If regulation was already effective as previously pointed out would this point really be necessary?

• “We conclude there was a systemic breakdown in accountability and ethics”

(NCCFEC, 2011:xxii) - Greed definitely played a role because the system allowed it to prosper.

• “We conclude that over-the-counter derivatives contributed significantly to this crisis”

(NCCFEC, 2011:xxiv) - Derivatives allowed banks and insurance companies to gear even higher without always having much with which to back up their positions (low levels of capital relative to the risk). In other words, derivatives allowed the bubble to inflate even further.

• “We conclude the failures of credit rating agencies were essential cogs in the wheel of financial destruction” (NCCFEC, 2011:xxv) – Without the approval of these agencies the mortgage securities at the heart of the crisis would not have been marketable. The false sense of security brought on by these investment grade credit ratings facilitated the expansion.

As mentioned, some of the commissioners dissented. The first dissenting group (Hennesey, Holtz-Eakin and Thomas) chose to emphasise the role of the United States government’s housing policies in the weakening of underwriting standards (NCCFEC, 2011:452). The second dissenting report (Wallison) comes to a similar conclusion by a different path. Mark- to-market accounting was mentioned in this dissenting report (NCCFEC, 2011:482) as the final step in a process through which government housing policies transmitted losses to the largest financial institutions. Basically, government policies overinflated the housing bubble, the bubble burst with no cause indicated. Liquidity was then withdrawn from the financial institutions that held mortgage-backed securities and mark-to-market accounting transmitted this credit and liquidity shock in a downward price spiral. What is clear is that accounting is not popularly regarded as a cause of the crisis and that even when it is mentioned it is only mentioned as a factor during the crisis period and not prior to the crisis period.

The purpose of this review was to contextualise FVA within the global financial crisis. The review revealed that there is no consensus yet on the causes of the global financial crisis and

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that FVA might have played a minor role in the crisis as part of a feedback process. The next section will examine the role of fair value accounting in the global financial crisis and will review what has been written. The brief description of the global financial crisis, presented above, will be returned to in chapter six of this study where the results of the three papers will be related back to the conclusions and findings of the NCCFEC to bolster the case for theoretical generalisation.