Inflation and deflation have
no effect on the real value of non-monetary items.
‘Inflation is always and everywhere a monetary phenomenon,’ per Milton
Friedman.
‘Purchasing power of non monetary items
does not change in spite of variation in national currency value.’
Gucenme, U. and Arsoy, A. P. (2005). Changes in financial reporting in
Turkey, Historical Development of Inflation Accounting 1960 – 2005. Special Issue Accounting
for the Global and the Local: The Case of Turkey. Critical Perspectives on
Accounting, Volume 20, Issue 5, July 2009, p. 568–590.
Inflation erodes the real value of only monetary items
not inflation-adjusted in terms of a Daily Consumer Price Index. Deflation
creates real value in only monetary items not deflation-adjusted in terms of a
Daily Consumer Price Index.
‘Assets
and liabilities linked by agreement to changes in prices, such as index linked bonds
and loans, are adjusted in accordance with the agreement in order to ascertain
the amount outstanding at the end of the reporting period.’
IAS
29, Par. 13
Inflation in many different countries has no effect on
the real value of monetary items inflation-adjusted in terms of a Daily CPI,
for example the more than 2.68 trillion US Dollars (2009)1 of
government inflation-indexed bonds currently inflation-adjusted daily in the
world economy in terms of a Daily CPI which is a lagged, daily interpolation of
the monthly published CPI.
1 (Standard
Life Investments. (2012). An
Investor´s Guide to Inflation–Linked Bonds. Retrieved 7 January
2012, from Standard Life Investments’s Web site.)
According to
the Banco Central de Chile, 20 to 25
per cent of the broad M3 money supply in Chile is currently inflation-adjusted daily
in terms of the Unidad de Fomento (Written communication. (2011)) which is a monetized daily indexed unit of
account started in 1967 and published daily by the Banco Central de Chile since 1990.
The above are
all monetary items that exist in a zero cost of inflation (not zero inflation)
space. They are all monetary items, but, their real values are not affected by
inflation. Inflation-adjusting the entire money supply (excluding bank notes
and coins of the fiat functional currency created by means of fractional
reserve banking within an economy) under complete co-ordination would result in
zero cost of inflation (not zero inflation) in only the complete money supply
(as qualified) in an economy.
It is currently (2012) impossible to inflation-adjust
or deflation-adjust bank notes and coins of fiat money created by means of
fractional reserve banking within an economy. Their real values are always
affected by inflation and deflation.
Bank notes and coins make up about 7 per cent of the
broad M3 money supply in an advanced economy.
At an inflation target of 2 per cent per annum annual
inflation the erosion of real value by inflation can be limited to 2 per cent
of 7 per cent of M3 under complete co-ordination; i.e. 0.14 per cent of the
money supply.
The inflation dragon has been cut down to size as evidenced in the US economy.
Nicolaas Smith
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