Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System from Crisis — and Themselves

by Andrew Ross Sorkin

Most banks valued their illiquid investments simply at the price they paid for them, rather than venture to estimate what they might be worth on any given day. If they later sold them for more than they paid for them, they made a profit; if they sold them for less, they recorded a loss. But in 2007 that straightforward equation changed when a new accounting rule, FAS 157, was enacted. Now if a bank owned an illiquid asset—the property on which its headquarters was located, for example—it had to account for that asset in the same way as it would a stock. If the market went up for those assets in general, it would have to record that new value in its books and “write it up,” as the traders put it. And if it fell? In that case, it was supposed to “write it down.” Of course, no one ever wanted to write down the value of his assets. While it may have been an interesting theoretical exercise—the gains and losses are not actually “realized” until the asset is sold—mark-to-market had a practical impact: A firm that had a huge write-down has less value.