The global financial crisis (GFC) gave rise to criticism of financial reporting, particularly in relation to the accounting treatment of financial instruments. The Financial Crisis Advisory Group (FCAG) identified four primary weaknesses: 1. difficulties in the application of fair value in illiquid markets 2. the delayed recognition of impairment losses resulting from the incurred loss approach adopted by IAS 39 Financial Instruments: Recognition and Measurement 3. the use of off-balance sheet financing, particularly in the US 4.the complexity of accounting standards for financial instruments.

AASB 13/IFRS 13 Fair Value was issued in response to concerns about the application of fair value, along with additional disclosures introduced in AASB 7/IFRS 7 when level 3 inputs are used to measure fair value.

Critics of fair value argued that it had a pro-cyclical effect and thus worsened the effects of the GFC on the financial system. They argued that falling financial asset prices during the GFC resulted in asset write-downs by financial institutions. Consequently, financial institutions were forced to sell financial assets in order to maintain capital adequacy prices. The forced asset sales arguably fuelled further reduction in prices, which exacerbated the effects of the GFC.

Proponents of fair value countered the arguments of its critics by pointing out that, in most countries, the majority of financial assets held by financial institutions were measured using amortised cost. Further, where used, fair value provided more timely recognition of problems, thus facilitating resolution of problems and mitigating the effects of the GFC.

In relation to financial assets carried at amortised cost by financial institutions, the FCAG concluded that:

. . . the overall value of these assets has not been understated but overstated. The incurred loss model for loan loss provisioning and difficulties in applying the model in particular, identifying appropriate trigger points for loss recognition in many instances has delayed the recognition of losses on loan portfolios. Source: Financial Crisis Advisory Group (2009).

Required Discuss the concerns about the accounting treatment of financial instruments raised in response to the global financial crisis. To what extent have these concerns been addressed by AASB 9/IFRS 9 and other changes in accounting standards?