According to predictions made by the National Institution of Population and Social Security Research, the elderly (i.e., people over age 65) will exceed 25% of the total Japanese population by the year 2015. This implies a relative decline in the younger workforce. Encouraging the elderly to participate in the labor market is thus an important task of government.
Although the employment rate of Japanese males aged 60–64 had been declining before 1988, it demonstrated moderate growth between 1988 and 1993 (Figure 1). Determining the reasons for this upswing and applying them to the country’s employment policy will increase the participation of this segment of the population in the workforce.
Credit risk is defined as the risk of loss resulting from failure of obligors to honor their payment obligations. The 1988 Basel Accord (“Basel I”), issued by the Basel Committee on Banking Supervision, is a framework for credit risk measurement and requires banks to maintain a capital to risk-weighted asset ratio of at least 8%. The 2004 Basel Accord (“Basel II”) is a revision of Basel I, aiming to promote the soundness of the financial system. It is based on three pillars: (1) minimum capital requirements; (2) supervisory review processes; and (3) market discipline. Keeping the capital to risk-weighted asset ratio of at least 8% requirement of the first Basel accord, the revision adjusts capital requirements to credit risk, operational risk and market risk. Credit risk in this context is the focus of this paper.
Basel II allows banks to evaluate the credit risk using either a standardized approach or an internal ratings-based (IRB) approach. The standardized approach relies on external ratings, such as those assigned by external credit assessment institutions, to determine risk weights for capital charges, whereas the IRB allows banks to develop their own internal ratings for risk-weighting purposes subject to supervisory approval and strict disclosure requirements. Some large banks start with the IRB approach. However, most banks start with the standardized approach and progress toward the more advanced IRB approaches that generate lower capital charges as they meet incremental requirements.
The purpose of this essay is to describe implications of the subprime crisis and the credit crunch it has engendered (collectively the “subprime crisis,” except when necessary for clarity) for accounting, meaning recognized accounting numbers and disclosures that elucidate those numbers. These implications depend on the interplay among attributes of subprime mortgages and other positions, the evolution of market prices and illiquidity during the crisis, and the requirements of the applicable accounting standards.
While credit losses on subprime positions are recorded under various standards, I focus on losses recorded based on the fair value measurement guidance provided in FAS 157, Fair Value Measurements. I also discuss issues that have arisen in accounting for securitizations of subprime assets under FAS 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities, and for the entities used in these transactions under FIN 46(R), Consolidation of Variable Interest Entities.
