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Thursday, 27 March 2008

Accountants killing the real economy.

Tito Mboweni asked the following question: “Is there a danger that we are killing the real economy?”

Inflation always destroys real value in two ways: (1) Cash inflation destroys the real value of the Rand. (2) At the same time the combination of inflation and normal accounting destroys constant real value non-monetary items that are never updated, for example, retained income.

Accountants have good rules to value variable value items.

Unfortunately they assume that the destruction of the value of money has no effect on constant value items that are never updated (eg. retained income). They assume money is stable ONLY for this purpose. The above combination thus destroys the value of constant value items at the annual rate of inflation. This amounts to hundreds of billions of Euros in the world economy and probably hundreds of billions of Rand in the South African economy annually. It kills off quite a bit of the real economy each and every year as everyone in SA is experiencing at the moment - and all the more the higher inflation.

Hardly anyone in SA realises that SA accountants are responsible for killing the real economy.

This killing of the real economy will stop forever when accountants stop this assumption.

This will result in 0% inflation only in constant real value non-monetary items. There will still be cash inflation in SA. A person can avoid losing value under cash inflation by holding no cash; that is, rather buy things that keep their value with your money.

Companies as well as the SA government can order their accountants to stop this assumption immediately. Salaries, taxes and companies´ issued share capital values will be updated monthly. All other constant values too - including retained income.

This way of doing things is already possible, but, only under hyperinflation. The reason it does not currently work under hyperinflation is that the International Accounting Standard Board tells Zimbabwe to update non-monetary items annually (income statement items monthly as per PricewaterhouseCoopers) at the hyperinflation rate instead of telling them that they should update everything that is not money daily at the parallel rate or a daily index rate like Brazil did.

It is vital for SA to do this under low (2%) and high (9.8%) inflation on a monthly basis every time the Consumer Price Index changes (daily updating at a daily index or parallel rate under hyperinflation) to make it impossible for Chartered Accountants to kill the real economy - as they are doing at present.

References:
http://www.accountancysa.org.za/resources/ShowItemArticle.asp?ArticleId=1235&Issue=857

http://en.wikipedia.org/wiki/Historical_cost

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