Voluntary Disclosure of Banks

Enhanced accounting disclosure leads to better transparency and stronger market discipline in the banking sector. The third pillar of Basel II, Basel Core Principles No.21, and recently the Policy Brief released by the OECD “Corporate Governance of Banks” Task Force, have explicitly asked for better disclosures by banks to allow the market to have a better picture of the overall risk position of the banks and to allow the counterparties of the banks to price and deal appropriately. More disclosures should reduce information asymmetry between those with privileged information and outside small investors, and facilitate more efficient monitoring, because sufficient information is necessary for market participants to exert effective disciplinary roles. According to a McKinsey “Global Investor and Emerging Market Policymaker Opinion Survey on Corporate Governance”, “accounting disclosure” was listed as the number one most important factor considered by 71% of investors surveyed, and “enhanced disclosure” was named as number one key progress area by 44% of policymakers. (Macesich, 19-58)

Accounting disclosure is raised to a particularly high level of importance for banking organizations compared to non-financial firms, for banks are inherently more opaque. Accounting reports are almost the sole source of information for bank investors and other stakeholders. Banks own few physical and visible assets, and investors can acquire a sense of a bank's performance and asset quality only from accounting numbers. Earnings numbers alone are not adequate for assessing the valuation of banks, the main business of which is to take risks and to provide liquidity (and thus earnings can be inflated through doing more of them). Thus profitability does not give investors the whole picture of the bank's financial situation, until risk profile of the bank is holistically disclosed. Finally, aggregate accounting numbers (e.g., total profits, total loans) without reasonable level of breakdown is less informative for banks than it is for industrial firms, because the most important information usually lies in the details of the sources of income and expenses, or quality of assets. Investors need this information to make judgments on which incomes are sustainable and which expenses are recurring. Transparency and disclosure is important ingredient of banking sector stability. (Statistics Department, 42-50)

Enhanced bank disclosures have been showed to be able to make banking crisis less likely to happen (Tadesse [2005], Hoggarth, Jackson, and Nier [2003]), because in high disclosure regime banks are less likely to take excessive risks (Nier and Baumann [2006]), and when they happen the losses less costly (Rosengren [2001]). The reason is that worse-run banks will see their funding base shrank as a result of market discipline, and thus situations would not have deteriorated to a disaster-level in the first place. The key for market discipline however is information disclosure. Cordella and Yeyati (1998) and Boot and Schmetis (2000) both show that, ex-ante, managers will choose lower risk when the risk profile is observable to outsiders; and ex-post, when a banking crisis does occurs; for example, Hoggarth et al. (2003) argue that disclosures reduce the likelihood of runs on fundamentally ...