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Monday 3 September 2012

Definition of hyperinflation

Definition of hyperinflation

Hyperinflation only affects the real value of money and other monetary items – and nothing else. Hyperinflation has no effect on the real value of non-monetary items.

The stable measuring unit assumption (not hyperinflation, as generally accepted) as it is implemented as part of the 3000-year-old, generally accepted, globally implemented, traditional Historical Cost Accounting model even during hyperinflation (as supported by the IASB and Big Four accounting firms like PricewaterhouseCoopers), erodes that portion of companies´ equity in only the non-monetary or real economy not backed by the equivalent real value of their net assets during hyperinflation (exactly the same as during low inflation).

So, who needs the definition of hyperinflation:

  1. Millions of accountants worldwide - representing almost the entire world economy - who have to value and account economic items in the world economy on a daily basis. These accountants generally implement International Financial Reporting Standards as authorized by the International Accounting Standards Board. American accountants, valuing and accounting economic activity in the world´s biggest economy follow US GAAP. IFRS and US GAAP are in a definite process of convergence (2012).
  2. Some academics who write research papers and books about hyperinflation.
The millions of accountants in the world economy implementing IFRS follow the IASB´s definition of hyperinflation, namely:

‘Hyperinflation is indicated by characteristics of the economic environment of a country which include, but are not limited to, the following:

(e) the cumulative inflation rate over three years is approaching, or exceeds, 100%.’

IAS 29 Par. 3 (e)

The above is the widely-accepted definition of hyperinflation since 1 April 1989, the date IAS 29 Financial Reporting in Hyperinflationary Economies was authorized by the IASB.

Some academics follow Philip Cagan´s definition of hyperinflation which has never been implemented in practice in any company or country since 1 April 1989:

´A price-level increase of at least 50% per month.´ (Cagan 1956)

The IASB´s definition is the generally accepted definition:

(1) as a result of its current (2012) worldwide acceptance

(2) and practical application as from 1989 and

(3) due to the fact that Cagan´s definition has never been implemented in practice in any company or country since that date

(4) and would almost certainly not be implemented in practice in a company or country in the future because of

(a) the wide acceptance of the IASB definition and

(b) the devastating effect of hyperinflation in only the monetary economy and the equally devastating effect of the stable measuring unit assumption in only the constant item economy during hyperinflation: no country in the world would currently (2012) wait for hyperinflation of 50 per cent per month before declaring that the country is in hyperinflation and taking preventative actions: the IASB´s definition would be followed.

The US government, the Federal Reserve Bank, the US Financial Accounting Standards Board  and the Securities Exhange Commission would almost certainly not apply Cagan´s definition if hyperinflation should ever come about in the US economy (extremely unlikely). They would apply the IASB´s definition. US GAAP and IFRS are in convergence (2012).

The Argentinean Accounting Federation (2010) and I (2012) suggested preventative actions to the IASB at 10 per cent annual inflation or 26 per cent cumulative inflation over three years. The 10 and 26 per cent limits, however, do not relate to hyperinflation: they relate to high inflation. The IASB has unanimously voted to submit these suggestions regarding the replacement of IAS 29 to research (2012).

Thus the IASB´s widely-accepted definition of hyperinflation is the following in 2012:

Hyperinflation is indicated when the cumulative inflation rate over three years is approaching, or exceeds, 100 per cent.

Steve Hanke and Nicholas Krus use Cagan´s definition in their latest research paper World Hyperinflations.

The IASB’s definition - despite the use of the term ‘approaching’- has resulted, in practice, in a generally accepted precisely defined limit as from when an economy enters into hyperinflation: cumulative inflation equal to 100 per cent over three years.

The term ‘approaching’ makes it appear vague. However, what happened in practice since 1989 resulted in the IASB´s definition now (2012) being widely accepted by millions of accountants in the world economy, namely that an economy enters into hyperinflation at 100 per cent cumulative inflation over three years as happened in the case of Venezuela in 2009.

It appears vague because of the term ‘approaching’. However, in practice, it is strictly applied as hyperinflation coming into effect at 100 per cent cumulative inflation over three years. Its actual application is thus not vague: hyperinflation is, in practice, confirmed in companies and countries, only at 100 per cent cumulative inflation over three years. See hyperinflation in Venezuela in 2009.

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Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Thursday 30 August 2012

TIPS would eventually increase in real value during deflation


TIPS would eventually increase in real value during deflation

The statement

“When a TIPS matures, you are paid the adjusted principal or original principal, whichever is greater,”

has the following results:

During inflation in the US

TIPS principal’s nominal value increases with inflation: its real value is thus maintained constant.

During initial deflation in the US with the adjusted (decreased) principal still greater than the original principal

TIPS principal’s nominal value decreases with deflation: its real value would thus be maintained constant during the initial period of deflation.

During subsequent deflation in the US with the adjusted principal less than the original principal

TIPS principal’s original nominal value would be maintained constant during subsequent deflation: its real value would thus increase during subsequent deflation. This would be a costly process for the US government.

UK, Canada and Japan

‘The UK, Canada and Japan, do not guarantee a minimum redemption price for their indexed issues.’
Comité de Normalisation Obligataire 2011: 15

The capital amounts of UK, Canadian and Japanese sovereign inflation-linked bonds would thus maintain their real values constant at all levels of inflation and deflation.
 
 
 
 
Nicolaas Smith


Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Monday 27 August 2012

No net monetary losses and gains (in 100 years time)


No net monetary losses and gains (in 100 years time)

 

Constant Item Purchasing Power Accounting (CIPPA) is financial capital maintenance in units of constant purchasing power at all levels of inflation and deflation as authorized by the IASB in IFRS in the original Framework (1989), Par. 104 (a) [now the Conceptual Framework (2010), Par. 4.59 (a)] in terms of a Daily Consumer Price Index.

The stable measuring unit assumption is never implemented under financial capital maintenance in units of constant purchasing power.

Perfect financial capital maintenance in units of constant purchasing power would thus mean the following:

The complete money supply in an economy would be inflation-indexed on a daily basis in terms of the Daily Consumer Price Index with financial capital maintenance in units of constant purchasing power also in terms of a Daily CPI, both with complete co-ordination (everyone doing it).

This would result in no net monetary losses and gains in the entire economy: no cost of inflation. There would still be inflation in the monetary unit but there will be no cost of inflation: all monetary items would be inflation-indexed daily in terms of the Daily CPI in the entire economy.

Why?

Because there is no stable measuring unit assumption under financial capital maintenance in units of constant purchasing power as authorized in IFRS.

There would also be no constant items losses and gains under perfect financial capital maintenance in units of constant purchasing power with complete co-ordination.

Perfect financial capital maintenance in units of constant purchasing power during low inflation would take at least 100 years to come about even in one economy let alone in the world economy.

I implemented a form of financial capital maintenance in units of constant purchasing power in 1996 in Auto-Sueco (Angola) when I implemented accounting-dollarization in terms of the daily US Dollar parallel rate in that company during hyperinflation in Angola.

Brazil also implemented a form of financial capital maintenance in units of constant purchasing power during 30 years of very high and hyperinflation from 1964 to 1994 in terms of their government-supplied Unidade Real de Valor daily index. Brazil then went back to financial capital maintenance in nominal monetary units implementing the stable measuring unit assumption as it forms part of traditional Historical Cost Accounting in 1994 when they introduzed their current Real currency.

A form of financial capital maintenance in units of constant purchasing power was also implemented in Chile from 1967 until 2008 in terms of their Unidad de Fomento, which is a monetized daily indexed unit of account published daily since 1977.  That form of financial capital maintenance in units of constant purchasing power was stopped in Chile when “correción monetaria” was stopped in 2008 ‘to comply with IFRS’. Chile now implements financial capital maintenance in nominal monetary units (HCA) ‘to comply with IFRS’. Chile did not realize in 2008 that financial capital maintenance in units of constant purchasing power had already been authorized in IFRS in 1989.

Chile currently (2012) inflation-indexes 20 to 25 per cent of the country´s entire broad M3 money supply on a daily basis in terms of their Unidad de Fomento according to the Banco Central de Chile.They started this process at a much lower scale in 1967.

More than USD 3.5 trillion in government inflation-indexed bonds are currently (2012) being inflation indexed daily in most countries in the world economy in terms of country specific Daily CPIs.

Financial capital maintenance in units of constant purchasing power during low inflation and deflation was authorized in April 1989 in the original Framework (1989), Par. 104 (a).

We will be very lucky if even just financial capital maintenance in units of constant purchasing power in terms of a Daily CPI during low inflation without complete inflation-indexing of the entire money supply is implemented on a national basis in one complete economy by April 2089.

This will happen during low inflation some time in the future. No-one knows when.

Welcome on the long journey to perfect financial capital maintenance in units of constant purchasing power in terms of a Daily CPI during low inflation and deflation in 100 years time.


Nicolaas Smith

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Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Wednesday 22 August 2012

Lonmin miners´ vote of no confidence in the SA Reserve Bank


Lonmin miners´ vote of no confidence in the SA Reserve Bank

During hyperinflation members of the public generally spontaneously start using the US Dollar as a relatively stable unit of account because their own local hyperinflationary currency loses real value at a very rapid rate. They start pricing everything in terms of the US Dollar.

SA has never been in hyperinflation in the past. It is not in hyperinflation at the moment (2012).
However, during the mine unrest at the Lonmin mine at Marikana near Rustenburg in South Africa, the miners stated on CNN that they wanted an increase to USD 1500 per month.

The SA Reserve Bank´s definition of price stability is stated in an inflation target of three to six per cent per annum. The SA Reserve Bank thus defines prices in South Africa increasing at six per cent per annum as being “stable”. The SARB would state that “price stability is being maintained” at inflation at six per cent per annum.

The miners are not economists, but they have a better sense of what is price stability in practice than the SARB.

Contrary to the SARB the miners obviously do not regard SA prices increasing at six per cent per annum as representing “price stability”. They use the US Dollar as a relatively stable unit of account, not the SA Rand. It is a clear vote of no confidence in the SA Reserve Bank´s monetary policies.

The SARB´s Monetary Policy Committee would now state as it stated in past: “The MPC remains fully committed to its mandate of achieving and maintaining price stability”. Six per cent annual inflation is actually “achieving and maintaining price stability” as far as the SARB is concerned. The miners clearly disagree with the SARB.

The Lonmin miners are good practical economists and I am sure they are good miners too.

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Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Saturday 18 August 2012

Purchasing power of capital has to be maintained



Purchasing power of capital has to be maintained

“It is essential to the credibility of financial reporting to recognize that the recovery of the real cost of investment is not earnings — that there can be no earnings unless and until the purchasing power of capital is maintained.”

FAS 33

Not a single company in the world economy knows whether it has maintained the purchasing power of its capital over the lifetime of the company.

Financial capital maintenance in units of constant purchasing power in terms of a Daily Consumer Price Index (i.e., Constant Item Purchasing Power Accounting) would automatically  maintain the constant purchasing power of capital constant for an indefinite period of time in all companies that at least break even in real value – ceteris paribus.





Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Tuesday 14 August 2012

Practical result of abolishing the stable measuring unit assumption

Practical result of abolishing the stable measuring unit assumption

In practice abolishing the stable measuring unit assumption, i.e. correctly accepting and implementing the proven fact that money (the monetary medium of exchange) is never perfectly stable under inflation and deflation within and economy will mean that financial statements as prepared at a specific date (e.g. the year end) will only be valid when consulted on that specific date, i.e. the year end date. When the financial statements are consulted after that date, all values at the stated historical date will be updated in terms the current, i.e. today´s, Daily CPI: the date on which the financial statements are consulted. The amounts of the items stated at the date the financial statements were prepared shall then be historical reference amounts (not values – value can only be perceived in terms of current value, i.e. today´s Daily CPI) as at the date of the financial statements and the Daily CPI at that date always to be updated in terms of the Daily CPI to the current, i.e. today´s, date thereafter.

In digital financial statements the amounts at the date of the financial statements will only be visible as part of the financial statements on that date. Thereafter they will never be part of the financial statements again to be seen as original fixed nominal historical amounts. They will be in memory (and on all original dated hard copy documents) at that date with a historical amount (not value – value can only be perceived in terms of current value, i.e. today´s Daily CPI) and the Daily CPI at that date. When consulted at any time after that date the original historical fixed nominal amounts of their real values measured in terms of the Daily CPI at the historical date will always be updated in terms of the current, i.e. today´s, Daily CPI.

During inflation their real values will remain the same for an indefinite period of time, but their nominal values will generally increase daily in terms of the Daily CPI.

During deflation their real values will remain the same for an indefinite period of time, but their nominal values will generally decrease daily in terms of the Daily CPI.





Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Monday 13 August 2012

Measurement of inventories under financial capital maintenance in units of constant purchasing power


Measurement of inventories under financial capital maintenance in units of constant purchasing power



The difference between financial capital maitenance in nominal monetary units (traditional Historical Cost Accounting) and financial capital maintenance in unit of constant purchasing power, i.e. Constant Item Purchasing Power Accounting (CIPPA), is that the stable measuring units assumption is always implemented under HCA but is never implemented under CIPPA.



The fact that the real value of money (and thus the monetary medium of exchange) was and is never perfectly stable on a sustainable basis within an economy during inflation and deflation is reflected in an entity in the way the three basic economic items, i.e., monetary, variable and constant items, are measured /valued  (for example variable items in terms of daily fair value and constant items in terms of daily constant purchasing power) over time under financial capital maintenance in units of constant purchasing power.



The reason for and the advantage of financial capital maintenance in units of constant purchasing power in terms of a Daily CPI is the fact that the constant purchasing power of equity (capital) is automatically maintained constant for an indefinite period of time in all entities that at least break even in real value at all levels of inflation and deflation – ceteris paribus.



Everything is done (and accounted daily) and all historical financial information is stated at the current, i.e. today´s, real value which generally changes every day. The concept of a nominal Historical Cost or a nominal historical value is abolished because the stable measuring unit assumption is never implemented under financial capital maintenance in units of constant purchasing power. Tomorrow today´s real values will be historical reference amounts and must be valued (measured) at tomorrow´s real value, e.g. tomorrow´s market price, Daily Consumer Price Index, etc.



Financial capital maintenance in units of constant purchasing power is authorized in IFRS in the Conceptual Framework (2010), Par. 4.59 (a) and includes Historical Cost as a measurement basis, but excludes the stable measuring unit assumption.



Since both financial capital maintenance in units of constant purchasing power (CIPPA) as well as financial capital maintenance in nominal monetary units (HCA) are authorized in the Conceptual Framework (2010), Par. 4.59 (a) it means that IFRS are implemented under two paradigms, namely the HC paradigm and the Constant Item Purchasing Power paradigm.



IAS 2 Inventories, Par. 9 Measurement of Inventories states:



‘Inventories shall be measured at the lower of cost and net realisable value.



An inventory item measured at Historical Cost in terms of IAS 2 shall be measured in terms of the current, i.e. today´s, Daily Consumer Price Index and continuously updated day after day thereafter because there is no stable measuring unit assumption under financial capital maintenance in units of constant purchasing power.



Par. 10 Cost of Inventories states:



‘The cost of inventories shall comprise all costs of purchases, costs of conversion and other costs incurred in bringing the inventories to their present location and condition.’



All historical costs of purchases, historical costs of conversion and other historical costs incurred in bringing the inventories to their present location and condition shall be measured in terms of the current, i.e. today´s, Daily Consumer Price Index and continuously updated day after day thereafter because there is no stable measuring unit assumption under financial capital maintenance in units of constant purchasing power.



Par. 23 Cost Formulas states:



The cost of inventories of items that are not ordinarily interchangeable and goods or services produced and segregated for specific projects shall be assigned by using specific identification of their individual costs.’



The above individual historical costs shall be measured in terms of the current, i.e. today´s, Daily Consumer Price Index and continuously updated day after day thereafter because there is no stable measuring unit assumption under financial capital maintenance in units of constant purchasing power.



Par. 25 states:



‘The cost of inventories, other than those dealt with in paragraph 23, shall be assigned by using the first-in, firts-out (FIFO) or weighted average cost formula.’



The cost of inventories, other than those dealt with in IAS 2, paragraph 23, assigned using the first-in, firts-out (FIFO) or weighted average cost formula shall be measured in terms of the current, i.e. today´s, Daily Consumer Price Index and continuously updated day after day thereafter because the stable measuring unit assumption is never implemented under financial capital maintenance in units of constant purchasing power.



Par. 34 Recognition as an expense states:



‘When inventories are sold, the carrying amount of those inventories shall be recognised as an expense in the period in which the related revenue is recognised.’



When inventories are sold, the carrying amount of those inventories shall be measured in terms of the current, i.e. today´s, Daily Consumer Price Index and continuously updated day after day thereafter and shall be recognised as an expense in the period in which the related revenue is recognised because the stable measuring unit assumption is never implemented under financial capital maintenance in units of constant purchasing power.





Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Friday 10 August 2012

What to do with the world´s accumulated Historical Cost Accounting loss


What to do with the world´s accumulated Historical Cost Accounting loss



Entities preparing their financial statements based on the historical cost basis generally do not know whether they have maintained the constant purchasing power of their equity constant over time.



The test would be to measure every item in current equity in units of constant purchasing power as from the date each item was contributed or came about over the entity´s lifetime and then to compare that total value with the company´s current net asset value measured in real value, i.e. no item in current net assets to be stated at historical cost, but at fair value.



This would be required to be done by an entity adopting financial capital maintenance in unit of constant purchasing power as authorized in IFRS in the Conceptual Framework (2010), Par. 4.59 (a) instead of financial capital maintenance in units of nominal monetary units, the traditional HCA model.



In most entities this would result in an enormous accumulated Historical Cost Accounting loss to be accounted as part of equity.



The net effect would be an enomous increase in the nominal value of equity (measured in units of constant purchasing power over the entity´s lifetime to date) together with and enormous accumulated Historical Cost Accounting loss, but resulting in the same current net equity real value being equal to the current real value of net assets before and after the above calcultions are made.



It is thus advisable to rather simply value current net assets in real value and state that as the constant real value of current equity to be maintained constant as from here on foreward by means of financial capital maintenance in units of constant purchasing power.



It is very doubtful that tax authorities would accept the sudden calculation of enormous accumulated Historical Cost Accounting losses which would represent the erosion of equity by the stable measuring unit assumption (HCA) over the lifetime of the entity to date under the Historical Cost paradigm.



In countries which allow the write-off of profits against accumulated losses over five years, for example, it would mean that no taxes would be paid by entities over the next five years in the case of an entire country adopting financial capital maintenance in units of constant purchasing power as from the same date. No country would accept not receiving any taxes from the corporate sector for five years.



This could be overcome in two ways:



  1. The accumulated HCA loss not being allowed for tax purposes. It would thus remain on entities´ balance sheets over many years till it is written off against future profits. The net constant real value of equity would be correct and be maintained constant correctly by means of financial capital maintenance in units of constant purchasing power. This option would be costly in terms of accounting time spent on the calculations. It would reveal the real cost today of having implemented HCA over the lifetime of an entity.
  2. Do not value past additions to equity in units of constant purchasing power and do not calculate the current HCA accumualted loss. Value current equity at the real value of current net assets and implement financial capital maintenance in units of constant purchasing as from the current date foreward. This option would have no extra costs, but would hide the accumulated cost of having implemented the HCA model over the lifetime of the entiy.



The second option is obviously the better choice.



So, the answer to the question: what to do about the world´s accumulated HCA loss is: just ignore it J in time-honoured accounting fashion.



However, it is actually required to stop the hundreds of billions of US Dollars (2012) in real value eroded each and every year by the implementation of the stable measuring unit assumption (HCA) in the world´s constant item economy during inflation and hyperinflation.



I do realize that may only happen a hunderd or more years from now (2012). Individual companies (even countries) are free to start anytime they like. It was authorized in IFRS in 1989.







Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Friday 3 August 2012

Unacceptable items in IFRS


Unacceptable items in IFRS



1. IAS 29 Financial Reporting in Hyperinflationary Economies.



It was duely implemented in Zimbabwe for at least the last six years during hyperinflation in that country: it had zero effect in the Zimbabwean hyperinflationary economy during those six years.



2. The IASB definitions of monetary items in IAS 21 and IAS 29.



All items paid or received in money are not monetary items. All economic items – monetary and non-monetary items – are generally paid or received in money as the monetary medium of exchange. A non-monetary item always paid or received in money does not transform that non-monetary item into a monetary item. It remains a non-monetary item always paid or received in money, e.g., salaries and wages.



3. The exclusion of measurement in units of constant purchasing from the FASB´s  and IASB´s joint list of possible basic measurement bases.



Measurement in units of constant purchasing power is a basic measurement basis continously applied in the world economy. Salaries, wages, rentals and many other items are generally measured in units of constant purchasing power on an annual basis in most of the world economy.





Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Wednesday 1 August 2012

BASIC MEASUREMENT BASES

Monetary items

  1. Measurement in terms of the general price level index.
This requires the calculation and accounting of net monetary losses and gains only as long as the stable measuring unit assumption (HCA) is mistakenly still being applied. It is an absolute fact that the monetary unit of measure is not perfectly stable.

Variable real value non-monetary items

2. Fair value and related bases excluding the stable measuring unit assumpiton as stated in the FASB and IASB list (below) of nine measurement bases.

Constant real value non-monetary items

      3. Units of constant purchasing power.

The following is the FASB and IASB list of basic measurement bases which mainly apply to variable items:


“The Boards agreed to the following set of nine measurement basis candidates:

1. Past entry price

2. Past exit price

3. Modified past amount

4. Current entry price

5. Current exit price

6. Current equilibrium price

7. Value in use

8. Future entry price

9. Future exit price.”

It can be seen from the above FASB and IASB list that neither

(i)                  measurement (of monetary items) in terms of a general price level index nor

(ii)                 measurement (of constant items) in units of constant purchasing power

are considered by either the FASB or the IASB as possible basic measurement bases.

The IASB does, however, require the calculation of net monetary losses and gains only during hyperinflation in terms of IAS 29 Financial Reporting in Hyperinflationary Economies.

The inexplicable omission of these two basic measurement bases is obviously a mistake on the part of the FASB and IASB.

Most salaries and wages and tens of thousands of other items have been and are currently measured in units of constant purchasing power on an annual basis in the world economy during at least the last 100 years.

It is impossible to explain how units of constant purchasing power can be omitted by both the FASB and IASB as a basic measurement basis.

The only possible explanation is to state that to err is human.

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Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Tuesday 31 July 2012

Measurement in units of constant purchasing power excluded from IASB and FASB measurement bases list

Measurement in units of constant purchasing power excluded from IASB and FASB measurement bases list


The FASB and IASB spent several years discussing measurement around the world during the Measurement Chapter of their Joint Conceptual Framework Project.

After several years of discussions around the world they published the following joint list of possible basic measurement bases:




"The Boards agreed to the following set of nine measurement basis candidates:



1. Past entry price

2. Past exit price

3. Modified past amount

4. Current entry price

5. Current exit price

6. Current equilibrium price

7. Value in use

8. Future entry price

9. Future exit price.”



It can be seen from the above FASB and IASB list that neither



(i)                  measurement (of monetary items) in terms of the Daily Consumer Price Index nor



(ii)                 measurement in units of constant purchasing power



are considered by both the FASB and the IASB as possible basic measurement bases to be included on their list.



Measurement in units of constant purchasing power is thus currently (2012) excluded as a possible basic measurement basis by both the FASB and IASB.



It is to be noted that financial capital maintenance in units of constant purchasing power as an alternative to HCA (see above) automatically maintains the existing constant purchasing power of capital constant for an indefinite period of time in all entities that at least break even in real value – ceteris paribus – at all levels of inflation and deflation.



The omission of measurement in units of constant purchasing power from the FASB´s and IASB´s joint list of possible basic measurement bases is thus noted with concern. It is difficult to come up with a plausible explanation why both the FASB and the IASB exclude measurement in units of constant purchasing power as a possible basic measurement basis.



The fact that financial capital maintenance in units of constant purchasing power is authorized in IFRS in the Framework since 1989 would normally result in it automatically being included in a list of possible basic measurement bases. However, after several years of international discussion both the FASB and IASB do not regard measurement in units of constant purchasing power as a possible basic measurement basis.



A healthy and robust discussion and publication of different viewpoints and research are good for the ongoing development of the understanding of the basic concepts of accounting / financial reporting at the FASB, IASB and elsewhere.



However, excluding measurement in units of constant purhasing power from the current (2012) list of possible basic measurement bases is not compatible with the development of high quality international accounting standards.





Nicolaas Smith



Copyright (c) 2012 Nicolaas Johannes Smith. All rights reserved. No reproduction without permission.


Monday 30 July 2012

FORGET INFLATION!?


FORGET INFLATION!?

MONETARY ITEMS

Definition

Monetary items are units of local currency held and items with an underlying monetary nature being substitutes of the former.

MEASUREMENT BASIS

The measurement basis used to measure monetary items over time under financial capital maintenance in units of constant purchasing power as authorized in IFRS in the Conceptual Framework (2010), Par. 4.59 (a) is the following:

Measurement in terms of the Daily Consumer Price Index.

This requires the calculation and accounting of net monetary losses and gains only while third party entities you deal with still implement Historical Cost Accounting and apply the stable measuring unit assumption.

ADVANTAGE OF DAILY INFLATION-ADJUSTMENT OF ALL MONETARY ITEMS

Inflation-adjustment on a daily basis of the entire money supply under full co-ordination will eliminate the entire cost of inflation (not actual inflation) from the entire economy. In practice (maybe in 100 years´ time) this will result in no-one being concerned about the actual rate of inflation since monetary item balances will maintain their real values over time.

Chile currently (2012) inflation-adjusts 20 to 25 per cent of its entire broad M3 money supply on a daily basis in terms of their Unidad de Fomento which is a monetized daily indexed unit of account used in the country since 1967 according to the Central Bank of Chile.

At least USD 3 trillion is currently (2012) being inflation-adjusted on a daily basis in terms of country-specific Daily Consumer Price Indices in the world economy. USD 798 billion is today (29-07-2012)  being inflation-adjusted on a daily basis in terms of the US Daily CPI in the US economy.

Yes, under complete inflation-adjustment of the entire money supply with complete co-ordination (everyone doing it) we can forget about inflation. Unfortunately that may only happen in 100 years´ time.

We are still a long way away from that. However, I have no doubt that it will happen one day.

We had a form of it in Angola in 1996 in Auto-Sueco (Angola), the company where I worked. We had it during hyperinflation of 3200 per cent per annum because I implemented accounting-dollarization as from 1 January 1996 in the company. We updated all our trade debtors, new car, new truck, spare parts prices and workshop service rates daily in term of the daily US Dollar black market or parallel rate.

We stopped our fear of hyperinflation with daily updating of all non-monetary items.

Low inflation countries can do the same with daily inflation-adjusting the entire money supply and the implementation of financial capital maintenance in units of constant purchasing power in terms of a Daily CPI as authorized in IFRS.

This will take a very long time to come about, but I am sure we will all eventually do it.

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Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Thursday 26 July 2012

IASB unanimously support a research programme on financial reporting in high-inflation and hyperinflationary economies

IASB unanimously support a research programme on financial reporting in high-inflation and hyperinflationary economies

At its May 2012 meeting the International Accounting Standards Board unanimously supported initiating a research programme focusing initially on, amongst other items, financial reporting in high-inflation and hyperinflationary economies.

This is an important decision as far as financial capital maintenance in units of constant purchasing power (Constant Item Purchasing Power Accounting which is implemented   at all levels of inflation and deflation) is concerned.

In the 2011 Agenda Consultation comment letter request document the IASB stated the following:

‘Inflation accounting (revisions to IAS 29 Financial Reporting in Hyperinflationary Economies)

IAS 29 provides guidance on the preparation of financial statements in a functional currency that is suffering from hyperinflation.  Concerns have been raised from some countries whose economies suffer from high inflation, but which are not hyperinflationary. Those concerns are that the effects of high inflation on an entity’s financial results are not adequately reflected in IFRS financial statements. A research paper was prepared on this issue and submitted to the IASB by the Federación Argentina de Consejos Profesionales de Ciencias Económicas. A future project could use this research paper to consider revisions to IAS 29 to include guidance for entities whose functional currency is that of an economy subject to high inflation, but not to hyperinflation.’

The Federación Argentina de Consejos Profesionales de Ciencias Económicas submitted a research report to the IASB in 2010 entitled IFRS ‘X’ INFLATION.  The IASB made the FACPCE´s reseach report available to me on my request.

In an unsolicited comment letter in Jan 2012 I pointed out to the IASB that inflation has no effect on the real value of non-monetary items and I comprehensively amended the FACPCE´s proposal to IFRS ‘X’ CAPITAL MAINTENANCE IN UNITS OF CONSTANT PURCHASING POWER.

Both IFRS X’ INFLATION and the amended version IFRS ‘X’ CAPITAL MAINTENANCE IN UNITS OF CONSTANT PURCHASING POWER are available in full in the ebook CONSTANT ITEM PURCHASING POWER ACCOUNTING per IFRS here.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Tuesday 24 July 2012

Acknowledgements


I wish to thank the following people and entities for helping me in this project either directly or indirectly:

David Mosso, Vice Chairman (retired) at the Financial Accounting Standards Board (1978-1987) and Chairman (retired) at the US Federal Accounting Standards Advisory Board (1997-2006) for reading an abstract of my work and for his comment: ‘Good work.’

Prof. Robert Shiller from Yale University for his clarifications to me regarding the formula for calculating the Unidad de Fomento in Chile.

Prof. Rachel Baskerville from The School of Accounting and Commercial Law at the Victoria University in Wellington, New Zealand for taking the time in 2010 to confirm the authorization of a third concept of capital maintenance in IFRS with her colleague Prof. Kevin Simpkins, the Chairman of the New Zealand Accounting Standards Review Board and for her statement: ‘‘There is much to be gained from moving away from reporting on the basis Financial Capital Maintenance in Nominal Monetary Units.’

Sir David Tweedie, Ex-Chairman of the International Accounting Standards Board, and Prof. Geoffrey Whittington, ex-member of the IASB, for their valued input in 2005 regarding that year’s version of the manuscript.

The South African Institute of Chartered Accountants for their valued exchange of ideas regarding the project in 2008.

Prof. Geoff Everingham, Emeritus Professor of Accounting at the University of Cape Town, for his valued exchange of ideas regarding the project in 2008.

Without SAICA´s and Prof. Everingham’s input in 2008 the project would not be where it is today.

Prof. Steve Hanke from the Cato Institute and John Hopkins University for his detailed assistance regarding currency boards to me prior to 2005 and his assistance with the definition of severe hyperinflation more recently.

Dr Gustavo Franco, Ex-Governor of the Banco Central do Brazil for his contribution to confirm that trade debtors and trade creditors are non-monetary items which have to be measured in units of constant purchasing power during inflation and hyperinflation.

Ron Lott, FASB Research Director and Kevin McBeth, FASB Project Manager for clearing up my doubts regarding the treatment of capital maintenance during the IASB and FASB´s Joint Conceptual Framework Project.

Dr Cemal KUCUKSOZEN, the Ex-Head of the Accounting Standards Department at the Capital Markets Board of Turkey in Ankara, for reading the 2005 version of the manuscript and for his comments including: ‘Theoretically, I totally agree with you. But, as you know, there is a trend towards acceptance of International Accounting Standards and IFRS issued by the IASB all over the world. In this regard, we can change over to Real Value Accounting when there is a change in IAS / IFRS toward Real Value Accounting or there is a trend toward Real Value Accounting all over the world.’ Constant Item Purchasing Power Accounting was called Real Value Accounting in 2005.

Prof. Dr Aylin POROY ARSOY from the Uludag University in Turkey for her information regarding her article where she and Prof. Dr Umit GUCENME state in 2005 that inflation has no effect on the real value of non-monetary items.

Dr Fermín del Valle, Chairman of the Special Commission created by the Federación Argentina de Consejos Profesionales de Ciencias Económicas (FACPCE) in 2009, for making FACPCE´s 2010 research paper to the IASB regarding the replacement of IAS 29 available to me in 2012.

Prof. Stephen Zeff from Rice University for his detailed assistance with inflation accounting to me in 2008.

The Canadian Institute of Chartered Accountants for providing copies of IAS 6 and IAS 15.

April Pitman, Technical Manager at the IASB for liaising with FACPCE regarding my access to their 2010 research paper.

Graham Terry, Vice President at The South African Institute of Chartered Accountants for his assistance in getting my article Financial Statements, Inflation & The Audit Report published in Accounting SA, SAICA´s accounting journal, in 2007.

Riana Julies, editor at Accounting SA, SAICA´s accounting journal for publishing my article Financial Statements, Inflation & the Audit Report in 2007 after I initially stated that I doubted very much that it would be published.

Prof. Ignacio Rodríguez from the Escuela de Administración, Pontificia Universidad Católica de Chile for clarifying the use of the Unidad de Fomento in Chile to me in 2011.

Prof. Ignacio Velez-Pareja from the Universidad Tecnologica de Bolivar, Department of Finance and International Business in Colombia for his extensive discussions with me in 2009 regarding the effect of inflation.

Robert Burgess, Resident IMF Representative in South Africa in 2007 and Norbert Funke from the IMF for their assistance in dealing with my questions regarding stabilization programs in high inflation situations during Zimbabwe’s hyperinflation.

Miguel Octavio, the owner of the Venezuelan blog The Devil’s Excrement and the commentators on his blog for sharing their experience of hyperinflation under President Hugo Chávez in Venezuela.

Banco Central de Chile for supplying me with detail of the extent of daily inflation-adjustment of the money supply in Chile.

Banco Central do Brasil for supplying me with detail regarding daily indexing of non-monetary items during 30 years of hyperinflation in Brazil.

Statistics South Africa for clarifications to me regarding the CPI in South Africa.

Motley Fool, the owner of the Fool’s Paradise blog for bringing the Unidad de Fomento to my attention in 2011.

Newzimbabwe.com Forum members for sharing with me the daily developments during the last two years of Zimbabwe’s period of hyperinflation under President Robert Mugabe and Gideon Gono, governor of the Reserve Bank of Zimbabwe.

Terry Clague, Publisher for Business, Management & Accounting books at Routledge Publishers for his assistance in my attempt to get published and his comment: ‘The quality of the book is not in question.’

Jonathan Norman, Publisher at Gower Publishing for his role in my attempt to get published and his comment: ‘You make a convincing case for the book.’

Juta Academic Publishers in Cape Town for offering me a publishing contract in 2005. Unfortunately we could not agree on terms at the time.

Harriet, my daughter, for her enduring support for the project.

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Nicolaas Smith Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.