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Tuesday, 2 September 2014

Two of the three parts of the post-HC economy would be stable in real value


Two of the three parts of the post-HC economy would be stable in real value

The economy consists of economic entities and economic items. There are three fundamentally different economic items in the economy:

1. Monetary items
2. Variable real value non-monetary items
3. Constant real value non-monetary items

1. MONETARY ITEMS

DEFINITION   Monetary items constitute the money supply.

Only when an item is part of the money supply in a non-dollarized economy is it a monetary item within the economy where the units of money are created. Otherwise it is a non-monetary item.

Money, i.e., any item that is 

(i) a medium of exchange (which eliminates the double coincidence of wants)

(ii) a relatively stable store of real value

(iii) a relatively stable real value unit of measure (for accounting purposes) and 

(iv) legal tender (for the settlements of debts)

is an essential component of a modern economy.

NON-MONETARY ITEMS

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

Non-monetary items are subdivided in:

(a) Variable real value non-monetary items
(b) Constant real value non-monetary items

2. VARIABLE REAL VALUE NON-MONETARY ITEMS

Examples include property, plant, equipment, inventories, listed and unlisted shares, foreign exchange, raw materials, finished goods, patents, bitcoins, other crypto-currencies, etc. are generally not perfectly stable in real value in an open and free economy. 

Measurement
Their variable non-monetary real values are generally determined by supply and demand in free and open markets in terms of fair value.

3. CONSTANT REAL VALUE NON-MONETARY ITEMS

Examples include issued share capital, all other items in shareholders´ equity, all items in the profit and loss account, provisions, salaries, wages, rents, taxes, pensions, interest received/paid, bank charges, trade debtors, trade creditors, all other non-monetary debtors, all other non-monetary creditors, etc. 

Measurement
Constant real value non-monetary items are measured in units of constant purchasing power in terms of the Daily CPI under the Capital Maintenance in Units of Constant Purchasing Power accounting model.

TWO STABLE PARTS OF THE POST-HC ECONOMY

I. Constant real value non-monetary item economy

The constant real value non-monetary item economy is the first part of the economy that would be maintained stable in real value via measurement in units of constant purchasing power (under the UCPP paradigm) under CMUCPP in terms of the Daily CPI.

See examples above.

II. Monetary item economy

The second and final step is the daily inflation-indexing of all monetary items in terms of the Daily CPI with complete coordination. That would stabilize the real value of all monetary items thus inflation-indexed daily in terms of the Daily CPI. 

This would do nothing to actual inflation or deflation. That depends on the actions of the central bank. Daily inflation- or deflation-indexing only eliminates the effect of inflation or deflation.

Current examples of perfectly stable in real value monetary item markets/areas

1. The global USD 3 Trillion plus market in government and commercial inflation-indexed bonds. Examples are US Treasury Inflation-Protected Securities (TIPS). 

2. 25% plus of Chile´s money supply is inflation-indexed daily.

3. All mortgages in Colombia are inflation-indexed daily.

ONE UNSTABLE PART OF THE ECONOMY

Only the variable real value non-monetary item part of the economy would not be (is not) stable in real value because these values change and would normally change minute by minute in their respective markets, e.g., forex markets, stock exchanges, money markets, capital markets, commodity markets, etc. See examples above of variable real value non-monetary items.

Sine qua non

The above orchestrated/implemented stability in real value (purchasing power) is only possible with the implementation of daily updating (daily inflation-indexing in the case of monetary items) in terms of the Daily CPI: actually, in terms of all changes in the general price level which can change more than once per day during severe hyperinflation. 

The CPI was institutionalized by the International Labour Organization in 1927.

In summary: The above stability in real value requires the rejection of the stable measuring unit assumption, i.e., the rejection of Historical Cost Accounting.

Nicolaas Smith Copyright (c) 2005-2014 Nicolaas J Smith. All rights reserved. No reproduction without permission.