WASHINGTON — Allowing mortgage-backed securities and other troubled assets to move off balance sheet helped fuel the housing crisis, a top lawmaker said Thursday.
Sen. Jack Reed, the chairman of the Senate Banking securities and insurance subcommittee, called for regulators to tighten controls of all off-balance-sheet assets.
"The securities packaged from these mortgages — many of them risky subprime mortgages — remained far from the view of investors, and less closely reviewed by regulators," he said during a hearing on the subject. "If we have learned anything from this recent mortgage mess — and I hope that we have — it is that we need more transparency in our markets, not less."
Regulators at the hearing largely agreed that more transparency is needed. One industry representative warned that moving some assets back on the balance sheet could result in more market instability and a loss of credit to consumers.
The hearing came days after the Financial Accounting Standards Board proposed a way to change how banks account for certain off-balance-sheet assets. Under the plan, which has drawn fire from the industry, FASB qualifying special-purpose entities could not be counted as off-balance-sheet assets.
Qualifying special-purpose entities is an accounting concept that allows institutions to account for certain assets, such as automobile loans, credit cards, and mortgages, as off-balance-sheet assets through securitization. By eliminating the classification, institutions would have to account for trillions of debt onto their balance sheets. FASB, which issued the proposal on Monday, left the plan open for comment until Nov. 14, and said it expected a new rule would take effect Nov. 15, 2009.
Sen. Reed said he supported the FASB plan.
"Now is the time to initiate these changes and to ensure they provide thorough transparency so that risks may be properly assessed," he said. "Holding large amounts of assets off balance sheet is not more transparency. If firms hold such risks, it should be disclosed so that investors can decide whether they are comfortable with such risks. Given the current state of the financial sector, this is the time to shore up confidence in our financial sector, not undermine it."
Sen. Reed said recent events show that companies with more accurate accounting for their balance sheets remain viable and that the marketplace punishes those slower to recognize losses.
George Miller, the executive director of the American Securitization Forum, said FASB's plan goes too far.
"These outcomes would likely swell the balance sheets of affected entities, impairing financial ratios and financial covenant performance and regulatory capital tests," Mr. Miller said. "Regulated entities will face potentially significant capital constraints, and both regulatory and unregulated entities will face substantial challenges by being forced to explain dramatic changes in their financial statements to investors and lenders with potentially little or no change to the economics of the subject transaction."
In written testimony, John White, director of the SEC's division of corporation finance, and James Kroeker, the SEC's deputy chief accountant, supported FASB's proposed changes but wrote: "An accurate assessment of the full impact of the proposed amendments will not be possible until companies have an opportunity to study and measure their effects. It is difficult, if not impossible, to predict how structured finance will evolve and how the proposed amendments will affect the accounting for yet unforeseen arrangements."
