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Tuesday, 15 December 2009

IASB got it wrong: there are 3 not just 2

"One can say that capital, as a category, did not exist before double-entry bookkeeping". Werner Sombart

Professor William Paton noted in 1922, "the value of the dollar — its general purchasing power — is subject to serious change over a period of years... Accountants... deal with an unstable, variable unit; and comparisons of unadjusted accounting statements prepared at intervals are accordingly always more or less unsatisfactory and are often positively misleading.”

Monetary items are money held and items with an underlying monetary nature.

Non-monetary items are all items that are not monetary items.

Non-monetary items are subdivided in

a) Variable real value non-monetary items and
b) Constant real value non-monetary items.

Constant items are non-monetary items with constant real non-monetary values measured in units of constant purchasing power in terms of the CPI over time normally expressed in terms of money in a non-hyperinflationary economy.

Hyperinflation is defined as an exceptional circumstance by the IASB and all non-monetary items – variable and constant items - are required to be valued in units of constant purchasing power in terms of IAS 29 Financial Reporting in Hyperinflationary Economies.

IAS 29 defines monetary items incorrectly as “money held and items to be received or paid in money”. Most items, monetary and non-monetary items are generally received or paid in money as the monetary medium of exchange. The fact that the IASB defines non-monetary items as all items in the income statement and all other assets and liabilities in the balance sheet that are not monetary items, after having defined monetary items incorrectly, leads to the wrong classification of some non-monetary items, notably trade debtors and trade creditors, as monetary items by the Board. This results in the net monetary gain or loss being calculated incorrectly by companies implementing IAS 29 in hyperinflationary economies.

The above definition of non-monetary items describes them generically. It is thus defined by the IASB that there are only two fundamentally distinct items in the economy: monetary and non-monetary items and that the economy is divided into two parts: the monetary economy and the non-monetary or real economy. IAS 29 and other IFRS are based on this premise.

It is not true that there are only two basic economic items as defined by the IASB. There are three fundamentally different basic economic items in the economy:

1. Monetary items
2. Variable items
3. Constant items

The above definition of constant items is confirmed by the IASB in the Framework by implication. The fact that certain non-monetary items have constant real non-monetary values is implied by the IASB in the Framework for the Preparation and Presentation of Financial Statements.

“In the absence of a Standard or an Interpretation that specifically applies to a transaction, management must use its judgement in developing and applying an accounting policy that results in information that is relevant and reliable. In making that judgement, IAS 8.11 requires management to consider the definitions, recognition criteria, and measurement concepts for assets, liabilities, income, and expenses in the Framework. This elevation of the importance of the Framework was added in the 2003 revisions to IAS 8." Deloitte, IAS Plus

IAS 8.11
“In making the judgement, management shall refer to, and consider the applicability of, the following sources in descending order:

(a) the requirements and guidance in Standards and Interpretations dealing with similar and related issues; and

(b) the definitions, recognition criteria and measurement concepts for assets, liabilities, income and expenses in the Framework.”


There are no applicable IFRS or Interpretations regarding the capital concept, the capital maintenance concept and the valuation of constant items. The explicit and implied definitions of these items in the Framework are thus applicable.

The Framework, Par. 102 states that most companies choose a financial concept of capital to prepare their financial reports. An entity’s capital is the same as its shareholders´ equity or net assets when it adopts a financial concept of capital, for example, invested purchasing power or invested money.

Par. 103 states that the needs of financial report users should determine the choice of the correct concept of capital by a company. If the users of financial reports are mainly concerned with the maintenance of nominal invested capital or the maintenance of the purchasing power of invested capital then a financial concept of capital should be chosen.

Par. 104 states that the concepts of capital stated in Par. 102 give origin to the financial capital maintenance concept. Par. 104 (a) states:

"Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power."

Constant items are non-monetary items with constant purchasing power non-monetary values measured in units of constant purchasing power in terms of the CPI over time normally expressed in terms of money in a non-hyperinflationary economy.

Kindest regards,

Nicolaas Smith