Authors

• Mary E. Barth (fbarth@gsb.stanford.edu)
  Graduate School of Business, Stanford University
• Javier Gomez-Biscarri (javier.gomez@upf.edu)
  Department of Economics and Business, University of Pompeu Fabra and Barcelona Graduate School of Ec
• Ron Kasznik (fkasznik@gsb.stanford.edu)
  Graduate School of Business, Stanford University
• Germán López-Espinosa (glespinosa@unav.es)
  School of Economics and Business Administration, University of Navarra

Abstract
Fair value accounting in banking has been criticized for the increased volatility that it generates in some accounting variables. One of its advantages, however, is that it reduces the possibility of discretionary earnings management, given that all gains and losses are immediately recognized. In this paper we qualify both considerations. The accounting regime of available-for-sale (AFS) securities allows for some degree of earnings and capital management: an AFS asset is reported at fair value but gains and losses over historical cost go into net income and measures of regulatory capital only when the asset is sold and the gain or loss realized. We use comprehensive data from US commercial banks and bank holding companies and provide evidence that fair value gains in AFS assets have consistently been used for earnings and capital management and that the holdings of AFS assets are related to the intensity of this activity. Our results show that the earnings management behavior is present both in listed and non-listed banks, suggesting that the motivations go beyond the incentives provided by capital markets. We also uncover significant differences in earnings management behavior over the years of the financial crisis.

Classification JEL:M41, G12

Keywords:fair value accounting, bank earnings, earnings management, income smoothing, available-for-sale asse

Number of Pages:52

Creation Date:2012-10-04

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