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Tuesday, 15 June 2010

Two enemies in the economy

Constant real value non-monetary items never maintained constant are treated like monetary items when their nominal values are never updated as a result of the implementation of the stable measuring unit assumption as part of the traditional Historical cost accounting model during low inflation and deflation.

“The Measuring Unit principle: The unit of measure in accounting shall be the base money unit of the most relevant currency. This principle also assumes the unit of measure is stable; that is, changes in its general purchasing power are not considered sufficiently important to require adjustments to the basic financial statements.”

Paul H. Walgenbach, Norman E. Dittrich and Ernest I. Hanson, (1973), Financial Accounting, New York: Harcourt Brace Javonovich, Inc. Page 429.

Inflation is the primary enemy in the monetary economy and the central bank is the enemy of inflation.

The second enemy is the stable measuring unit assumption. Financial capital maintenance in units of constant purchasing power as originally authorized in IFRS in the Framework (1989), Par 104 (a) in 1989 is the enemy of the stable measuring unit assumption during low inflation and deflation. In principle, it is assumed that money, the monetary unit of measure, is perfectly stable during low inflation and deflation; that is, it is assumed that changes in its general purchasing power are not sufficiently important to require financial capital maintenance in units of constant purchasing power during low inflation  and deflation where under the nominal constant real non-monetary values of all existing constant items in the real economy is updated by applying the monthly change in the annual CPI in order to maintain their constant real values constant forever in all entities that at least break even. The stable measuring unit assumption unknowingly, unintentionally and completely unnecessarily erodes the real values of existing constant items never maintained constant during low inflation to the amount of about R167 billion in the SA constant item economy each and every year while the HCA model is implemented and inflation remains at about 4.8% per annum.

The stable measuring unit assumption is a stealth enemy camouflaged by US GAAP and IFRS authorization which makes it IFRS compliant and the generally accepted accounting fallacy that the erosion of companies´ capital and profits is caused by inflation: hardly anyone knows or understands that when the very destructive stable measuring unit assumption is implemented, it unknowingly, unintentionally and unnecessarily erodes the existing constant real value of constant items never maintained constant at a rate equal to the annual rate of inflation under HCA during low inflation. Some people who already know about it claim that it makes no difference to the economy. The fact that the stable measuring unit assumption is unnecessarily eroding about R167 billion per annum in the SA real economy, and hundreds of billions of US Dollars in the world´s real economy, does make a difference.

Nicolaas Smith

Copyright © 2010 Nicolaas J Smith