Punchinello’s Chronicles

March 13, 2009

Mark-To-Market Accounting

Filed under: Surely a Jest? — Punchinello @ 1:36 am
Tags: , , , ,

I swear!…just when I think I’m starting to understand the insane world of economics and financial stuff, they uncover another mystery! The first one I learned about was “baseline budgeting.” Man, is THAT a fiasco! But not all that crazy, when you learn about this “mark-to-market” accounting gimmick.

Baseline budgeting is very cool, and would be wonderful if we all could use it. Unfortunately, it’s only available to governments and really big corporations. Let’s say you have $100 to spend on fun stuff. Good, so you spend it. You’re not allowed to put it in the bank, just spend it.

At the beginning of the next year, you have to make a new budget. You figure out how much you earn, how much are your bills, and what’s left. Then you budget how much to spend on stuff. And here’s where it gets interesting.

Since you spent $100 last year, then if you DON’T spend at least that much this year, you’re going to lose whatever you don’t spend. If you only need to spend $90, that’s fine, but next year you’ll only be able to budget $90 for stuff. So you’d better damn-well spend that $100 or else!

Meanwhile, everyone knows the cost of everything always goes up, no matter what! It’s a rule. If you spent $100 this year then by gosh, you can sure enough count on the “fact” that you’ll need at least 3% more next year. That means you have to “assume” you’ll spend $103 in the new year.

As such, you’ve “raised” your budget by $3. That’s the 3%. All fine and dandy.

Now suppose your spouse complains. You don’t have enough money to spend on stuff ’cause you have to spend it on food. Alright, so you sit down with him or her and make a promise. You’ll “cut spending.”

To you and me, that ordinarily means you’ll spend less than $100 on stuff, right? Ah…not if you’re a government, using baseline budgeting!

Nope. What you tell your spouse is that instead of the “automatic” and “assumed” 3% budget increase, you’re really really really gonna tighten your belts! It’ll be hard, and you won’t have all the stuff you had last year, but you’re going to do it anyway. You’re going to “cut the budget by half!” You’re going to only increase the budget 1.5%.

A 50% Budget Cut!! Holy Cow!! Imagine how tough it’s going to be! Life will be at subsistence levels, barely surviving!

Unh-hunh… So what this comes down to is that you’re going to increase the budget for stuff to $101.50, but that’s “actually” half of what you expected to spend. And that’s the magic of a 50% budget cut according to the government.

Now, what’s this malarkey about “mark-to-market?”

It turns out that a publicly traded company has assets. We know that, it’s the stuff they own. That stuff goes into making up the overall value of the company; how much its really worth. So when you buy a share in the company, you have to know how much its worth. Good.

But who says how much anything’s worth? Well, if you could sell it today, that’s what it would be worth on the open market. Anyone can say anything and tell us something is worth whatever. Except that the Financial Accounting Standards Board (FASB), along with the Securities and Exchange Commission (SEC) have rules. Really serious, grown-up rules.

You have to value your company’s assets according to “the market,” and you have to tell everyone what that value turns out to be. And it has to be today’s market!

Otherwise, any company can say it has assets that are, like, gazillions of dollars in value! And if the company is that rich, then by-damn, it must be worth lots and lots of money! And that means the stocks are worth lots and lots too.

So what happens if you own (on the bo0ks) $2-billion in houses? Like if you’re a bank, for instance.

Presumably, when you lent money to homeowners and businesses, those homes and businesses were really worth a total of $2-billion. That’s what you paid for them, in the loans. And that’s what you expect to get paid back. Right? Of course!

Except for one thing: Those loans are now worth $1.87.

Based on “mark-to-market” accounting, your bank took a MAJOR loss! Ergo, your assets are worth squat! And by gosh, if anyone were still making money and paying back your loans, that’d be fine. But they’re not. So you’re not getting paid back. And your actual homes and company assets — the “stuff” that’s collateral on the loans, ain’t worth squat!

Hah! So the Accountants (those scary people with pocket-protectors and thousand-dollar suits) figure we have trouble. Companies are reporting losses up the wazoo! Banks, especially, are reporting losses of bazillions of dollars. That can’t be good…!

What if we suspend or change those “mark-to-market” rules (yeah, rules) and say that you don’t have to “actually” use market value today to list your assets?

The problem is if you’re going to list your assets but they don’t have to be real, then what “day” determines their value? If you go to sell a house today, it’s worth $50. But when you loaned the money it was worth $1-million. So do you “mark” the asset value based on when it might have been worth a million? Or do you mark it according to what you guess it might be worth in today’s market?

It’s fairly well known that if you or I invest money in a Hollywood movie, we’re never going to ever make any money. No matter how much we invest, and no matter how many millions of dollars the movie reports in ticket sales, you and I aren’t going to see squat. Why? Because when you examine the accounting, look at the books, and follow all the rules and deductions, the move company is lucky to barely break even.

Same with a lot of charities. Oh sure, they’re for the chillllllllldrinnnn. They’re good works, and they want your money to help dying chilllllldrennnn. Except that by the time everyone gets paid, the executives get their salaries, and everyone has a fine banquet at monthly fund-raisers, there’s about $1 left to maybe feed 1 kid.

Not all charities work that way, but a whole lot of them do. Because they have…accountants.

All bets are off. The FASB has announced that within 3 weeks (not by June, as expected), nobody’s going to have to really report anything real at all. Whatever assets some bank may have in collateral and how much money they lent, they didn’t “really” lend that money.

What happens to the difference? If I borrow $250,000 to buy a house that’s worth $250,000 in 2007, I have to pay back $250,000 plus interest. The bank presumably doesn’t have $250,000 anymore, but they DO own my house until I pay off the loan.

If the bank “says” the house is only worth $100,000 “today,” then what, they suddenly “gain” $150,000? Can they then lend that money out? Or raise a bunch of credit-card limits so people can go buy new TVs?

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