Determinants of discretionary fair value measurements: the case of Level 3 assets in the banking sector

The objective of our research was to respond to the call of Barth and Taylor ([Barth, M., 2010]) for more research to examine the role of discretion in fair value estimates. Specifically, we investigate factors that explain banks’ accounting choices to use Level 3 valuation inputs from the fair value measurement hierarchy. Using hand‐collected data from a sample of international banks during 2009–2013, we find that incentives to use discretionary Level 3 valuation inputs, which can provide an opportunity to manage earnings, are associated with both firm‐level and country‐level determinants. Additional tests provide evidence that Level 3 ‘transfer‐in’ behaviour is related to changes in bank characteristics.