Volume 44, Number 173,
April-June 2013
Latin America. Between Financialization
and Productive Finance
Roberto Soto
TRANSFORMATIONS TO THE FINANCIAL SYSTEM OF LATIN AMERICA ( ...continuation )

Figure 1. Traditional Functioning of Banks
Source: Prepared by the author.

The source of financing for companies was modified, which produced repercussions for the entire productive process, including investment, employment, income, consumption and earnings. Because the subsidiaries adopted the same financial practices as their headquarters, they stopped paying attention to productive investment, which led to profound economic stagnation. Likewise, large companies, pressured to seek revenue, modified their actions and began a path of financialization leading to the loss of the productive side (investment-employment), replaced by the financial side (securitization of assets-liabilities).

If we analyze Mexico, one of the most significant effects of financial deregulation has been how the finance departments of companies behave, as they use financial engineering to manipulate their financial statements and pay fewer taxes (Soto, 2010). In other words, special purpose entities (spe) are being used to hide earnings/loss profiles, as needed. These companies can use the hypothetical future value to increase profits in a desired time period, all through the use of dfi. Both financial and non-financial companies use creative accounting to maintain more resources for the company and/or diffuse losses, etc. Large conglomerates have made this practice commonplace, although the results are not always as expected. We can look to large automotive companies, airlines and banks as examples of companies that have reported (real) losses due to poor management of derivatives.

One of the most representative cases explained by creative accounting is Enron. Soto (2010) writes of two ways to manipulate the earnings/loss profile:

a) Prudent reserves or fictitious accounts

Operators maintain records of their operations. Instead of recording the entire earnings for some transactions, they separate it into two. The first half reflects real earnings reported by the operator and the second – the prudent reserve – is the rest. This last portion can be used to compensate for future losses.

This method was efficient for long-term derivatives transactions because it was difficult to determine a precise valuation for a specific date in these contracts, and the latter portion provided a respite in cases of derivatives losses.

b) Futures curves

Operators entered their earnings by setting futures curves, in other words, the diverse rates that the products would negotiate for their delivery on future dates. This type of curve is very important for derivatives operations because they determine the value of a derivatives contract up to the minute.

Prudent reserves and futures curves were practically complementary methods. Operators that generated profits could use prudent reserves to reduce earnings with the purpose of using them the next year, in such a way that those losing money were able to set their futures curves with the purpose of obtaining earnings to compensate for losses.

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PROBLEMAS DEL DESARROLLO. REVISTA LATINOAMERICANA DE ECONOMÍA, Volume 49, Number 194 July-September 2018 is a quarterly publication by the Universidad Nacional Autónoma de México, Ciudad Universitaria, Coyoacán, CP 04510, México, D.F. by Instituto de Investigaciones Económicas, Circuito Mario de la Cueva, Ciudad Universitaria, Coyoacán,
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