Hey that looks totally familiar!

I have to pull a Reuters and correct the picture on this upon further reflection. My colleague insisted she would read my 1000th post so I'll throw something in for her (and whatever other nerds end up here). This is more like Silent Hill than Bizarro World. Get ready for the world of Fed accounting. If you want to experience it, I recommend any one of the Silent Hill video games. Or all of them in sequence. So this is better:




You cannot start any post on auditing, dismantling, poking at or otherwise ending the Fed without mentioning Ron Paul. I did an extensive Google search and discovered as much. And since that's what kicked all of this off in the first place (this blog, and this angry girl who writes it day in and day out), the shared goal of exposing the Fed, it just makes sense to give him his due.

For my 1000th post here on Jr Deputy Accountant, let's finally discuss that all-important issue of HR 1207 to Audit the Fed that I've been promising for weeks. Sorry, had some life to go do.

According to @xtapol (noted Fedbasher - I hope they're watching this display because we're about to put on one hell of a show), all House Republicans (even the RINOS) are now on board with HR 1207. Damn. Good show, but how many of them are there? 12? And what happens if this passes?

Well I guess first we've got to figure out why we want this. And that starts with this guy:

Rep. Ron Paul (R-TX) is really fun to watch. That's why I've included a clip below from Reuters for you to enjoy. He hates, hates the Federal Reserve. In the clip, he makes that quite clear. I don't hate the Fed, but I do agree that the government should be able to audit the Fed. First, here's the clip, then some discussion. (By the way, if you watch past about 3 1/2 minutes, you also get the treat of seeing him go off on the horrors of regulation.)

(the video and the rest of the article can be found here)

Now that we've laid the foundation (and set the bar high for ending the Fed), let's talk financial statements.

I've got two thick issues of regional Fed bank Annual Reports. Having sat through multiple CPA Review classes, I recognize these. And OMG, Deloitte does them! This is pretty hilarious.

For those who are not in accounting, the particulars of audits are lost. Hell, they are even lost to the auditors themselves (any of my accounting industry counterparts can identify to what I am referring if you ask. There is a list of them over there to the right and most of them are helpful if you have technical questions. If you don't ask or learn, as I have said many times before, you probably deserve every pound of flesh that gets taken out of your ass going forward) so let's take the theoretical idea of an audit and make it something realistic for you, dear reader. Remember above all else that this is the Fed and they don't use "normal" accounting rules. Again, the CPAs can confirm that some of this shit is pretty whacked out (pick any FASB) but Fed accounting is some hybrid monster of government, GAAP, and WTF. We have been here before: see my June 25 Accounting at the Federal Reserve: the WTF to Beat all Previous WTFs.

This is the point when I hold up Richmond Fed's 2008 Annual Report and go "whose statements are these?" and the class yells back "management's!" - as any of our CPA Review students who have taken AUD with us can tell you. (I apologize to Minneapolis Fed for not picking apart their financial statements for this but frankly the cover was really boring and scary. I know it's cold up there but you fuckers need to lighten up - so Richmond wins as usual)

Perhaps I'll slip my boss this during the next class so he can retire that old freaky Wal-Mart annual report he holds up. Anyway.

To those promoting HR 1207, did you know these existed and you can order them directly from the Fed? Wow, amazing, right? Like any annual report, it's full of fluff in the front with obscure and tangentially-appropriate images. Sadly, these reports have gotten harder and harder to fluff and this one is no different in some respects. But it's the Fed so they get a bit more room on the fluff scale and include charming information about the 5th District and its vibrant economy, blah blah blah. We've all seen what these look like and if you didn't realize it was Fed bank financial statements, you might even consider not shorting them to death (*coughGSknowswhatI'mtalkingaboutcough*).

And then you have the awesomely cheesy shots of the Board, with OMG Ken Lewis in the bottom right-hand corner. What's he doing there?

If only Fedgate had gone like this:

CONGRESS: Did the Fed at any point imply that you would be ousted from Bank of America's management if you did not go ahead with the Merrill acquisition?

KEN LEWIS: No. However, Richmond regulators came after me with scissors threatening to cut my awesome pic out of bottom corner of the Richmond Fed Annual Report. *cry* It totally hurt my feelings.

Burn.

So. Let's get to the meat. Deloitte apparently speaks Fed accounting since the Board of Governors in Washington DC hired them on for "audits of the individual and combined financial statements of the Reserve Banks." They provide this information outside of these shiny little reports on the Board's website as well. You don't necessarily have to decode their balance sheet to get to the good stuff.

Deloitte must be independent, blah blah blah, cannot audit its own work, etc.

But in Management's engagement letter, the management of Federal Reserve Bank of Richmond ("FRB Richmond") is responsible for the preparation and fair presentation of the Statement of Financial Condition (client-provided and not from a third party? That feels a tad dangerous no?), Statements of Income and Comprehensive Income, and Statement of Changes in Capital as of December 31, 2008 (the "Financial Statements"). (I can use quotations too - it doesn't make what I say any more "legitimate")

This is the good part:

"The Financial Statements have been prepared in conformity with the accounting principles, policies, and practices established by the Board of Governors of the Federal Reserve System and as set forth in the Financial Accounting Manual for the Federal Reserve Banks ("Manual"), and as such, include amounts, some of which are based on management judgments and estimates. To our knowledge, the Financial Statements are, in all material respects, fairly presented in conformity with the accounting principles, policies and practices documented in the Manual and include all disclosures necessary for such fair presentation."

And when Richmond Fed Management (including Jeffrey Lacker and his fucking amazing hair) signed it, I believe that they were being truthful in their statement. But wtf?

How do you perform an audit for a client who provides their own scope, their own materiality, AND their own methodology? What sort of savants does Deloitte have on staff to sense something awry among statements for which there are no agreed-upon rules other than those set by the client themselves?

I asked my boss about this once on a car ride home from our San Jose location and he explained it better than most can. What if someone is selling a car? In a normal scenario, the person with the money to buy the car is the one who determines what is important (so the auditors decide what is critical based on predetermined, generally accepted "material" aspects involved; the paint job, how the engine runs, the mileage, etc. Most people - auditors or car buyers - agree on the same important aspects). But in the case of auditing the Fed, the seller (in this example, the Fed or the client) is the one determining what is important to the buyer. "Here," says the seller, "I know the wheels are gone and the paint is rusty BUT I have a full gas tank and according to my rules, that is what is important (or material)." See, this is why my boss is a teacher and not a Deloitte auditor.

Get to the back page of Deloitte's report to the Board of Governors of the Federal Reserve System in Washington, DC regarding the financial statements of the Richmond Fed and you find the most disturbing part of all. An entire paragraph (after the internal control paragraph - come on, communications on the CPA exam is this easy) "as described in Note 4 to the financial statements" on that elusive Fed "Manual" that sets forth the standards by which Deloitte will conduct their audit. Sure, the PCAOB sets forth the principles. But who writes the rules? The "Manual", says Deloitte, "is a comprehensive basis of accounting other than accounting principles generally accepted in the United States of America." Mind the GAAP, kids.

Fine, it's not GAAP. That happens. But what is it? It's whatever the "Manual" says it is! (again, the 325 page "Manual" for Fed bank accounting may be found here, proceed at your own risk)

So the Fed is trying to sell us the car and tell us the only thing that matters is that the gas tank is full.

What good is HR 1207 going to do?

"Differences exist between the accounting principles and practices in the FAM (the "Manual" somehow becomes the Fed "Financial Accounting Manual" by Note 4) and generally accepted accounting principles in the United States ("GAAP"), primarily due to the unique nature of the Bank's powers and responsibilities as the nation's central bank."

The reserve banks do not provide a statement of cash flows "because the liquidity and cash position of the Bank are not a primary concern given the Reserve Banks' unique powers and responsibilities" makes me wonder why the Fed performs any accounting functions at all. Statement of cash flows? Who the fuck needs that when you just make it up?

Any audit of the Fed would reveal only as much or as little as the "Manual" permits. That precious Fed independence apparently also means that they are independent to determine their own accounting rules. But they can still point out that they are being transparent in providing this information, some of it is familiar and not all that whacked out as far as the fundamentals of accounting are concerned.

So nice try, kids, and I'm glad to see the Republicans bonded together for this, and I cannot begin to tell you how happy I am to see these issues gaining very obvious public attention but we have a long way to go.

Back to square one: who will regulate the regulators?