Venezuela in hyperinflation

Julius Malema can visit Venezuela in hyperinflation


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Venezuela officially entered into hyperinflation according to the IASB´s definition: 100% cumulative inflation over 3 years.

2007 22.5% inflation

2008 30.9% inflation

2009 26.9% inflation

Cumulative inflation over the last 3 years: 105.0% = hyperinflation. I predicted this in a joking way. Now it actually came about.

Julius and his friends from the ANCYL can now visit a country in hyperinflation and study how to get SA into the same situation by nationalizing the mines like Hugo Chavez did with many parts of the Venezuelan economy :-)

Actually, they can save some taxpayer money and fly over the border to Harare. At State House and the Reserve Bank of Zimbabwe they will be given a perfect plan of what to do :-)

On a serious note:

Venezuelan companies now have to implement the IASB´s IAS 29 Financial Reporting in Hyperinflationary Economies. The IASB encourages them to carry on doing business using the traditional real value destroying Historical Cost Accounting model implementing financial capital maintenance in nominal monetary units (one of the three popular IASB authorized accounting fallacies) and the stable measuring unit assumption (the second of the three popular IASB authorized accounting fallacies) during hyperinflation in this coming year.

At the end of 2010, after their accountants have unknowingly destroyed the real values of all their existing reported constant items (e.g. reported Retained Profits, capital, etc) never maintained with Historical Cost Accounting at the rate of most probably 25% this coming year, the IASB requires them to restate their year end results of what will be left of their very much destroyed companies at the year end Consumer Price Index to give them meaningless results that are suppose to make these results "more useful".

If all Venezuelan companies now immediately start valuing all non-monetary items at their black market parallel rate of exchange for the US Dollar on a daily basis - this rate already operates in Venezuela and is available in the streets on a daily basis - they would stop the destruction of real value in their real economy in its tracks: they would have zero inflation or value destruction in their real economy. It would be the only economy in the world operating like that. They could even grow their real economy this year.

This would give their government and monetary authorities a chance to work out a plan to stop hyperinflation in their money. Dollarization of the economy has already been suggested by one of their top bankers.

I do not think Hugo Chavez would be interested because this 100% secure plan comes from the west.

It may be possible to implement the above plan if he loses in the next election.

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Kindest regards,

Nicolaas Smith

PS I think the ANC´s image will take a severe knock if they finance Julius and his mates with taxpayer money to visit a country that is well known for nationalizing left, right and centre and has just entered into hyperinflation, in search of viable economic policies for South Africa.

Gill Marcus can rid SA of 3% inertial inflation

From Wikipedia:

"In the medium-to-long term, economic agents begin to forecast inflation and to use those forecasts as de facto price indexes that can trigger price adjustments before the actual price indices are made known to the public. This cycle of forecast-price adjustment-forecast means current inflation becomes the basis for future inflation (more formally, economic agents start to adjust prices solely based on their expectations of future inflation)."

In my opinion, half of SA´s 6% inflation is simply unnecessarily destructive and economically destabilizing inertial or built-in inflation that can be done away with given sufficient "political will" from Gill Marcus and her team at the SARB. Marcus can eliminate that 3% inertial inflation by creating a lower, but still within the inflation target range, inflation expectation.

She and her team already have the necessary credibility that they stick to their word. It may simply be a matter of developing that 3% expectation in the economy and educating the population about the advantages of lower inflation.

I am convinced that SA can do with 3% inflation exactly the same as with 6% inflation. It is within the target range, is it not? So, what is wrong with 3%? All interest rates can come down by 3% too. Everybody gains.

Obviously, Eskom may be the fly in the ointment maybe being responsible for at least a 1% increase in inflation.

Kindest regards,

Nicolaas Smith

Constant items

There are three fundamentally different basic economic items in the economy: 1) monetary items 2) variable real value non-monetary items and 3) constant real value non-monetary items.

Variable items have variable values based on market demand and supply, and in companies their values are determined in terms of International Financial Reporting Standards if they are listed on the Johannesburg Stock Exchange and on SA Generally Accepted Accounting Practice if they are not listed on the JSE. Unlisted companies can also comply with IFRS if they so choose.

The second distinct economic item is a monetary item. That can be money and other monetary items like all money loans, capital amounts of mortages, etc. Money´s value is constant or stable in nominal value. The values on the notes and coins do not change.

Money and other monetary items´ real value has never ever been stable in the past and is not stable now. Money and other monetary items´ real value is determined by inflation and deflation. Inflation is always and everywhere the destruction of real value in money and other monetary values. 6% inflation in SA destroys about R120 billion in the real value of the Rand and other monetary items in the SA economy every year.

Now we come to the big surprise to you: there is a third distinctive basic fundamentally different economic item: constant real value non-monetary items. Examples are salaries, wages, rentals, issued share capital, reported retained profits, share premium account, capital reserves, all other items in shareholders´equity, provisions, trade debtors, trade creditors, taxes payable, taxes receivable, all other payables and receivables, etc.

They all have constant real values - all else being equal. They have to be valued in units of constant purchasing power during inflation and deflation.

That is the ONLY way to keep their real values constant over time during inflation and deflation. When constant items are valued in nominal monetary units by SA accountants when they apply their very destructive stable measuring unit assumption (a very popular accounting fallacy approved by the International Accounting Standards Board) they destroy their real values at a rate equal to the rate of inflation because these constant items, like all other economic items in SA are expressed in the Rand which is a monetary medium of exchange and inflation destroys the real value of the Rand, not the real value of the constant items.

The real values of all constant items never maintained in the SA economy are unknowingly, unnecessarily and unintentionally being destroyed by SA accountants freely choosing the 700 year old generally accepted traditional Historical Cost Accounting model when they freely choose to measure financial capital maintenance in nominal monetary units (the second popular accounting fallacy approved by the IASB) in terms of the IASB´s Framework, Par 104 (a) which states: “Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power.”

You can thus see that the IASB authorized the accounting fallacy of financial capital maintenance in nominal monetary units (it is impossible to maintain the real value of capital stable in nominal monetary units per se during inflation and deflation) and its ONLY and PERFECT antidote in one and the same IFRS statement. SA accountants unknowingly destroy about R200 billion each and every year in the real values of existing reported constant items never maintained when they freely choose traditional HCA implementing the stable measuring unit assumption when they measure financial capital maintenance in nominal monetary units in terms of the Framework, Par 104 (a) in SA companies.

They would stop that destruction and boost the SA real economy by about R200 billion per annum for an unlimited period of time in the future when they freely choose financial capital maintenance in units of constant purchasing power as they have been authorized by the IASB in the Framework, Par 104 (a) twenty years ago in 1989. So, the SA constant item part of the SA real economy is full of millions of constant real value non-monetary items with constant real values.

When your salary is inflation-adjusted at least at the rate of inflation then its real value stays constant. The same should happen to all reported retained profits and capital in all SA banks and companies. Unfortunately it is not yet happening like that.

SA accountants blame inflation for the erosion of companies´ profits and capital, the third very popular accounting fallacy accepted by the IASB. They know and admit that this destruction - they always call it erosion - takes place: they and all other accountants world wide blame inflation instead of their own free choice of the traditional HCA model.

So, there are millions of constant items with stable or constant real values. The IASB proof is in Par 104 (a): Financial capital maintenance can be measured in units of CONSTANT purchasing power. Capital and all items in Shareholders´Equity are non-monetary items as defined by the IASB.

Since they can be measured in units of CONSTANT purchasing power to keep their real values CONSTANT, they are thus CONSTANT items.

Do you perhaps know any accountants? :-)

© 2005-2010 by Nicolaas J Smith. All rights reserved

No reproduction without permission.

The failure of IAS 29

The combination of hyperinflation, accountants implementing HCA and inappropriate economic and monetary policies in a country destroy the real economy, because it is impossible for hyperinflation – per se – to destroy the real value of non-monetary items. For example: Salaries and wages: Salaries and wages are constant real value non-monetary items. Hyperinflation can not destroy their real values. Hyperinflation can only destroy the real value of the hyperinflationary currency and other monetary items. Salaries and wages are not monetary items. They are simply paid in money as the medium of exchange. They can be paid in Big Macs / beer / food supplies too. Hyperinflation destroys the real value of the monetary medium of exchange. They can also be paid in foreign exchange (e.g. in US Dollars) or in kind when their real values would not be destroyed no matter what the rate of hyperinflation. The real values of salaries and wages are destroyed in a hyperinflationary economy when they are fixed; i.e., they are valued in nominal monetary units.

Their real values are destroyed when they are not updated or they are updated at a rate lower than the rate of hyperinflation. Their real values are not updated because of an accounting practice: valuation in nominal monetary units. Their real values would be maintained when a different measurement basis is chosen, namely, units of constant purchasing power by applying the parallel rate in a hyperinflationary economy. So, it is the choice of measuring them in nominal monetary units which destroys their real value and not hyperinflation because when they are measured in units of constant purchasing power by applying the daily parallel rate their real values would be maintained no matter what the rate of hyperinflation.

The result of not updating salaries and wages in a hyperinflationary economy is that internal demand in the country contracts dramatically. Workers don’t receive enough money to make their normal monthly purchases because the goods they normally buy are variable items. These variable items´ prices are updated in terms of the daily parallel rate, but not their salaries.

There would be no destruction of real value in the real or non-monetary economy at all when all constant items (salaries, wages, rent, capital, retained profits, trade debtors, trade creditors, taxes payable, etc.) and variable items are updated daily in terms of the parallel rate – no matter what the hyperinflation rate is. That would be continuous financial capital maintenance in units of constant purchasing power: at the parallel rate in a hyperinflationary economy. This does not happen when IAS 29 is applied. IAS 29 simply requires simple financial statement restatement in terms of the CPI at the financial year end which produces meaningless results at a historic rate that is meaningless since the current parallel rate would make reading or analyzing those financial statements a complete waste of time in a hyperinflationary economy.

Some companies in Zimbabwe and elsewhere refused to implement IAS 29 for this reason. Towards the end of the hyperinflationary spiral created by the Zimbabwe government and central bank that wiped out all the real value of the Zimbabwe Dollar prices doubled every 24.7 hours according to Prof Steve Hanke from Cato Institute. http://www.cato.org/zimbabwe The Zimbabwe government did not even supply the CPI for a number of months. It is obviously impossible to apply IAS 29 in a scenario like that. The parallel rate (not always the same one) was available 24/7 throughout the country 365 days a year.

© 2005-2010 by Nicolaas J Smith. All rights reserved

No reproduction without permission.

Accounting fallacy and antidote approved by IASB in the same statement

IAS 29 Financial Reporting in Hyperinflationary Economies was required to be implemented by all companies listed on the Zimbabwe Stock Exchange during hyperinflation in that country. That made no difference and could not make any difference to the hyperinflationary spiral of hyper-destruction of the real value of the ZimDollar because hyperinflation is always and everywhere a monetary phenomenon and can only destroy the real value of the hyperinflationary currency and other monetary items. Hyperinflation per se has no effect on the real value of non-monetary items in a hyperinflationary economy. See Gucenme and Arsoy.

However, if IAS29 was applied on a daily basis applying the daily parallel rate to all non-monetary items (not just most consumer products) in Zimbabwe, then the Zimbabwean real economy would not have unknowingly been destroyed to the extent it was destroyed by the implementation of the stable measuring unit assumption in the Zimbabwean real economy during hyperinflation.

The real values of constant real value non-monetary items in a hyperinflationary economy are destroyed by HC accountants´ choice of financial capital maintenance in nominal monetary units (one of the IASB-approved popular accounting fallacies) when they implement the HC model (see PricewaterhouseCoopers in Understanding IAS 29) which includes the stable measuring unit assumption (another IASB approved popular accounting fallacy) during hyperinflation.

Zimbabwe accountants then dutifully restated their HC financial statements at year end by applying the CPI at the year end date to give them meaningless results  after they had unknowingly destroyed the real value of constant real value non-monetary items in their companies by first implementing HCA during hyperinflation as encouraged by the IASB before applying IAS 29 restatement to what was left of their companies at year end as required by the IASB.

They also unknowingly played their full part in the destruction of their real economy in combination with hyperinflation, inappropriate government economic policies and inappropriate Reserve Bank of Zimbabwe monetary policies. The joke about an accountant being like a man who hides away in the hills during the battle and afterwards comes down and bayonets the wounded, comes to mind. :-)

Historical Cost Accounting should be banned by law during hyperinflation and low inflation. That would be the quikest and best way to solve many, many problems. That is going to be the end result, in any case. Not by law, but by general acceptance. The SA real economy would gain about R200 billion per annum for an unlimited period of time and SA accountants would - for the first time - properly fulfil their roles as guardians of constant real non-monetary value in the economy which should be the real objective of their training and their compensation.

It is the SARB´s job to lower the destruction of real value of the Rand and other monetary items in the SA monetary economy by lowering inflation. Accountants can do nothing with accounting about that. They can, however, ensure zero destruction of real value in the constant item economy for an unlimited period of time with continuous financial capital maintenance in units of constant purchasing power as they have been authorized by the IASB in the Framework, Par 104 (a) twenty years ago. Instead, they currently unknowingly, unnecessarily and unintentionally destroy that about R200 billion each and every year in the real values of constant items (e.g. all reported Retained Profits in SA companies) never maintained with their implementation of financial capital maintenance in nominal monetary units - the very popular accounting fallacy also authorized by the IASB in the exact same Framework, Par 104 (a) in 1989.

The Framework, Par 104 (a) states:

"Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power."

A very long standing, very popular, very destructive accounting fallacy as well as its only and perfect antidote both approved by the IASB in the same statement. It is so strange it is hard to believe: but, it is true.


© 2005-2010 by Nicolaas J Smith. All rights reserved

No reproduction without permission.

Sir David Tweedie does not understand the basic problem with IAS 29

A modified IAS 29 can, in fact, be used to stop this hyper-destruction by accountants´ choice of the HCA model of the real values of constant items never maintained during hyperinflation. Hyperinflation per se destroys the real value of the monetary unit directly, for example, the Zimbabwe Dollar in the recent past. There is no Zimbabwe Dollar today: the Reserve Bank of Zimbabwe over-printed it to oblivion. The Zimbabwean people en masse believed very strongly in the fallacy that printing money creates wealth. Hyperinflation did not and can not destroy the real value of any non-monetary item (constant or variable real value non-monetary item) in the Zimbabwean economy or any other economy.

The real values of some, mostly consumer, non-monetary items were maintained by the fact that their selling prices were adjusted every time the black market or parallel rate changed in Zimbabwe. These changes sometimes occurred twice or more often per day. Their real values were maintained, not by applying the CPI as officially required by the IASB in terms of IFRS, but, the daily parallel rate of exchange for the US Dollar to the ZimDollar. That was the real rate of exchange and real value rate in Zimbabwe. That is always the case in all hyperinflationary economies. Not the CPI that was announced a month after the month to which it related. The CPI that could be announced two months after the date of a transaction is useless as a real value index in a hyperinflationary economy when prices change every few hours.

This is the basic reason for IAS 29´s failure in hyperinflationary economies: requiring the CPI to be applied at the end of the year instead of the daily parallel rate to be applied daily. Sir David Tweedie, the Chairman of the IASB, never worked or lived in a hyperinflationary economy. If he had, he would understand the basic problem with IAS29. Obviously I agree that we cannot expect the Chairman of the IASB to experience every accounting problem personally. Sir David has a very busy schedule. He spends his time flying all over the world on IASB business (refining IASB approved accounting fallacies – I suppose) and did not have time to read my “voluminous manuscript” in the past. So he asked Geoffrey Whittington to inform me. (I do not actually expect Sir David to read my manuscripts. I thought the IASB had a basic research section.)

© 2005-2010 by Nicolaas J Smith. All rights reserved

No reproduction without permission.

Vital function of accounting

Accountants were not aware in 1989 when IAS 29 Financial Reporting in Hyperinflationary Economies was authorized that they unknowingly destroy real value in existing reported constant items never maintained by implementing financial capital maintenance in nominal monetary units - traditional HCA - during inflation and hyperinflation. All destruction of the real value of constant items (e.g. the erosion of companies´ profits and capital) was and still is mistakenly blamed on inflation and hyperinflation.

Nor were accountants aware in 1989 that the only way to stop that destruction was with continuous financial capital maintenance in units of constant purchasing power during inflation and hyperinflation. Fortunately, this did not prevent the IASC Board from authorizing continuous financial capital maintenance in units of constant purchasing power as an alternative to traditional HCA in the Framework, Par 104 (a). Unfortunately no-one chooses continuous financial capital maintenance in units of constant purchasing power because of the predominance of HCA and the three popular accounting fallacies:

1) The stable measuring unit assumption - approved by the IASB.
2) Financial capital maintenance in nominal monetary units - approved by the IASB
3) The erosion of companies´ profits and capital caused by inflation - accepted by the IASB.

If the IASC Board in 1989 were aware of the fact that only continuous financial capital maintenance in units of constant purchasing power could stop forever accountants´ unknowing destruction of the real value of constant items never maintained because of their implementation of the HCA model during inflation and hyperinflation, they would have pointed that out to accountants and left it up to them to choose the alternative option to stop the destruction. The IASC Board stated in the Framework, Par 110 that it was not their intention to prescribe a specific accounting model except in the case of hyperinflation at that time.

They still did not prescribe continuous financial capital maintenance in units of constant purchasing power during hyperinflation, but simply restatement of all non-monetary items in HC and current cost financial statements by applying the CPI at the financial year end to make them more useful during hyperinflation. That clearly indicates that they were not aware of its permanent constant real value maintaining function at that time. It is an objective / function of accounting / general purpose financial reporting to maintain the real value of constant items stable by means of continuous financial capital maintenance in units of constant purchasing power during inflation, hyperinflation and deflation.

This is the reason for IAS 29´s failure in stopping the accounting based hyper-destruction of real value in constant items never maintained in hyperinflationary economies.

Kindest regards

Nicolaas Smith