IFRS and US GAAP authorised CMUCPP maintains the constant purchasing power of constant real value non-monetary items (e.g. capital, all items in shareholders´ equity, provisions, salaries, wages, pensions, taxes, trade debtors/creditors, etc) in terms of a Daily CPI in entities that at least break even in real value during low and high inflation, hyperinflation and deflation - ceteris paribus. European Accounting Assoc: "Capital maintenance is a competing objective of financial reporting."
When we discuss, write about, talk about or analyse this monetary item
described above, we call it money and describe it using the term money with the
implicit assumption that this money we are dealing with is stable – as in fixed
– in real economic value in our low inflationary economies. We thus assume at
the same time that prices are more or less stable in low inflationary economies
The term stable is generally accepted by the public at large to indicate
a permanently fixed situation or position or state or price or value. A stable
– as in fixed – price over time would be represented as a horizontal line on a
chart.A slowly increasing price over
time would be drawn as a slightly rising line on a chart. A slowly decreasing
value over time would be drawn as a slightly declining line on a chart. When we
say production of a commodity is stable we accept that the absolute number of
items being produced is not fluctuating but is the same all the time.
The term ‘price stability’ as used by economists, however, does not mean
a fixed price or level, even though that is what the public in general thinks
it means. The term stable in economics today means slowly increasing or slowly
decreasing – depending on what it is being applied to. The term price stability
as used by economists today does not mean that prices in general stay the same,
but that prices in general are rising slowly, which is, as we are all taught,
the popular definition of inflation.
The term stable money as used by economists equally does not mean that
the real value of national monetary units they are talking about stays the same
in the internal economy – even though that is what the public in general thinks
it means. What they mean with stable money is that the real value of a national
monetary unit is slowly being eroded by inflation over time in the internal
When a central bank governor says that the central bank’s primary task
or objective is price stability what she or he means is that the central bank
would be fulfilling its primary task, in an economy with low levels of
inflation, when prices in general are slowly rising over time, that well known
definition of inflation again. The flip side of that statement is that the real
value of national monetary units is slowly being eroded by inflation over time.
A central bank’s primary task being price stability is
the same as saying a central bank’s main responsibility is ensuring that
inflation is maintained at a very low level. This low level was generally
accepted in first world economies to be two per cent per annum. The sub–prime
mortgage crisis (2008) raised doubts about the two per cent level being
sufficient in the event of large shocks to the economy.
‘In a world of small shocks, 2 per cent
inflation seemed to provide a sufficient cushion to make the zero lower bound
‘Should policymakers therefore aim for a
higher target inflation rate in normal times,
in order to increase the room for monetary
policy to react to such shocks? To be concrete, are the net costs of inflation
much higher at, say, 4 per cent than at 2 per cent, the current target
(Blanchard, Dell´Ariccia and Mauro, 2010: 4 and 11)
The maintenance of a high degree of price stability generally (still)
means that the primary task of a central bank in a first world economy is to
limit the erosion of real value in money and other monetary items by inflation
to a maximum of two per cent per annum within an economy or monetary union.
Continuous two per cent annual inflation erodes two per cent of the real value
of money and other monetary items per annum; i.e., 51 per cent over 35 years.
Under the current Historical Cost paradigm it also means that the
implementation of the very erosive stable measuring unit assumption as it forms
part of the traditional HCA model unknowingly, unintentionally and
unnecessarily erodes two per cent per annum of the real value of constant real
value non–monetary items never maintained constant. This erosion by the HCA
model is eliminated completely when it is freely chosen to measure financial
capital maintenance in units of constant purchasing power during inflation
Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.