Wednesday, 20 January 2010

Monumental: The most critical set of issues this century

Here is some related information which highlights the problem:

The US Financial Accounting Standards Board tried to address the problem of accountants unknowingly destroying companies´ capital and profits by applying the stable measuring unit assumption (which is fallaciously believed by everyone to be caused by inflation: inflation can only destroy the real value of money and other monetary items – nothing else.) in their Financial Accounting Standard FAS 33 Financial Reporting and Changing Prices which was completely superseded by FAS 89 with the same title.

FAS 89

This Statement supersedes FASB Statement No. 33, Financial Reporting and Changing Prices, and its subsequent amendments, and makes voluntary the supplementary disclosure of current cost/constant purchasing power information. The Statement is effective for financial reports issued after December 2, 1986.

This Statement was adopted by the affirmative vote of four members of the Financial

Accounting Standards Board. Messrs. Lauver, Mosso, and Swieringa dissented.

Mr. Mosso dissented to the issuance of Statement 33 and he dissents to its rescission, both for the same reason. He believes that accounting for the interrelated effects of general and specific price changes is the most critical set of issues that the Board will face in this century.

It is too important either to be dealt with inconclusively as in the original Statement 33 or to be written off as a lost cause as in this Statement. The basic proposition underlying Statement 33—that inflation causes historical cost financial statements to show illusory profits and mask erosion of capital — is virtually undisputed.

(My note: Erosion is the same as destruction of capital.)

Specific price changes are inextricably linked to general inflation, and the combination of general and specific price changes seriously reduces the relevance, the representational faithfulness, and the comparability of historical cost financial statements.

Although the current inflation rate in the United States is relatively low in the context of recent history, its compound effect through time is still highly significant.

Mr. Lauver:

Relative to most changes in financial reporting, the changes required by Statement 33 were monumental.

Because most accountants and users of financial statements have been inculcated with a model of financial reporting that assumes stability of the monetary unit, accepting a change of this consequence would take a lengthy period of time under the best of circumstances.

The measures set out in FAS 33 were the start of the process – definitely not the final solution. I do not agree with the specifics of FAS 33. I do agree with the broad principle that accountants unnecessarily destroy companies´ capital and profits when they choose to implement the stable measuring unit assumption - which is virtually undisputed as stated by the FASB.

The International Accounting Standards Board also attempted a similar standard: IAS 15 Information Reflection the Effect of Changing Prices. It was also withdrawn.

“At its meeting in October 1989, the Board of IASC approved the following statement to be added to IAS 15:

“The international consensus on the disclosure of information reflecting the effects of changing prices that was anticipated when IAS 15 was issued has not been reached. As a result, the Board of IASC has decided that enterprises need not disclose the information required by IAS 15 in order that their financial statements conform with International Accounting Standards.

However, the Board encourages enterprises to present such information and urges those that do to disclose the items required by IAS 15.”

Copyright © 2005 - 2010 Nicolaas J Smith

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