Inflation accounting is a financial reporting process that considers the effects of inflation on financial statements. Accounting assumes a stable monetary unit. Financial statements that are not adjusted for changes in the purchasing power of the currency become economically irrelevant. In certain countries experiencing high inflation or hyperinflation, laws or accounting standards require corporate financial statements to be adjusted for changes in purchasing power using a price index. Historical financial statement Financial statements (or financial reports) are formal records of a business financial activities. ... In economics, purchasing power refers to the amount of goods and services a given amount of money -- or, more generally, liquid assets -- can buy. ... Certain figures in this article use scientific notation for readability. ... This article does not cite its references or sources. ...

Measuring unit principle

"One of the basic principles in accounting is “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.”^[1]

Under a historical cost-based system of accounting, inflation leads to two basic problems. First, many of the historical numbers appearing on financial statements are not economically relevant because prices have changed since they were incurred.... Second, since the numbers on financial statements represent dollars expended at different points of time and, in turn, embody different amounts of purchasing power, they are simply not additive. Hence, adding cash of $10,000 held on December 31, 2002, with $10,000 representing the cost of land acquired in 1955 (when the price level was significantly lower) is a dubious operation because of the significantly different amount of purchasing power represented by the two numbers.^[2]

By adding dollar amounts that represent different amounts of purchasing power, the resulting sum is misleading, as would be adding 10,000 dollars to 10,000 Euros to get a total of 20,000. Likewise subtracting dollar amounts that represent different amounts of purchasing power may result in an apparent capital gain which is actually a capital loss. If a building purchased in 1970 for $20,000 is sold in 2006 for $200,000 when its replacement cost is $300,000, the apparent gain of $180,000 is illusory.

Historical cost basis in financial statements

“In most countries, primary financial statements are prepared on the historical cost basis of accounting without regard either to changes in the general level of prices or to increases in specific prices of assets held, except to the extent that property, plant and equipment and investments may be revalued.”^[3] In accounting terminology, historical cost describes the original cost of an asset at the time of purchase or payment as opposed to its market value (saleable value, replacement value or value in present or alternative use). ...

Accountants in the United Kingdom and the United States have discussed the effect of inflation on financial statements for many years.

Stable money: Normal or historic cost accounting assumes that transactions occurring over a period of time can be measured in terms of a single, stable measuring unit, e.g. Pounds, Dollars ... This means that, in the UK, all accounts are drawn up in Pounds; and this year's balance sheet can be compared with last year's balance sheet. Consequently, if fixed assets brought down from last year were £1,000 and a further £500 of fixed assets were bought during this year, we would say fixed assets carried down from this year were worth £1,000 + 500 = £1,500. All of this gives rise to consistency but there is a problem with reality: inflation means that very few currencies are truly stable. Many attempts have been made at solving this problem, incidentally, but, in the UK, for example, all efforts have proven useless. The only really meaningful accounting directive ever enacted on this subject was withdrawn by the accounting bodies in the UK several years ago.^[4]

In the United States, accounting standard-setting organizations such as the American Accounting Association and the American Institute of Certified Public Accountants have discussed the effects of inflation on financial statements for over 50 years. During the Great Depression, some corporations restated their financial statements to reflect inflation. At times during the past 50 years standard-setting organizations have encouraged companies to supplement cost-based financial statements with price-level adjusted statements. During a period of high inflation in the 1970s, the Financial Accounting Standards Board (FSAB) was reviewing a draft proposal for price-level adjusted statements when the Securities and Exchange Commission (SEC) issued ASR 190, which required approximately 1,000 of the largest US corporations to provide supplemental information based on replacement cost. The FSAB withdrew the draft proposal.^[5] With over 330,525 CPA members (in August 2006), the American Institute of Certified Public Accountants (AICPA) is the largest professional organization of Certified Public Accountants (CPAs) in the United States of America. ... The Great Depression was the result of the economic downturn that started with the Stock Market crash on October 29, 1929, known as Black Tuesday. ... The Financial Accounting Standards Board (FASB) is a private, non-for-profit organization whose primary purpose is to develop Generally Accepted Accounting Principles in the United States (US GAAP). ... The Securities and Exchange Commission, commonly referred to as the SEC, is the United States governing body which has primary responsibility for overseeing the regulation of the securities industry. ...

Constant purchasing power inflation accounting

In Brazil, it was recognized that hyperinflation eroded the purchasing power of money. A constant purchasing power accounting model was developed to maintain the purchasing power of non-monetary items in a hyperinflationary economy. The Brazilians developed the Unidade Real de Valor (URV) for this purpose. URVs were quoted in Cruzeiros Reais and its intrinsic value was pegged to three price indices and had a fixed parity of 1-to-1 to the U.S. dollar. The exchange rate of URVs to Cruzeiros Reais was recalculated and published daily by the government. Prices or non-monetary items were quoted both in URVs and Cruzeiros Reais but payments had to be made exclusively in Cruzeiros Reais. The Unidade Real de Valor, or URV (Portuguese, Real Unit of Value), was a non-monetary currency (ie, non-fiat) created in March 1994, as part of the Plano Real in Brazil. ...

The second example of the constant purchasing power inflation accounting model was the dollarization of countries' economies, for example Yugoslavia, Panama and Ecuador. The fact that they introduced a relatively stable currency in their previously hyperinflationary economies as the only legal tender, reduced inflation in their countries to the inflation level of the hard currency introduced. In the case of Yugoslavia it was the German Mark (the Euro today) and the US Dollar in the other two countries. They reduced inflation dramatically - by making the relatively stable hard currency the only legal tender in their countries. Dollarization occurs when the inhabitants of a country use foreign currency in parallel to or instead of the domestic currency. ...

International standard for hyperinflationary accounting

The International Accounting Standards Board defines hyperinflation in IAS 29 as:"the cumulative inflation rate over three years is approaching, or exceeds, 100%." ^[6]

Companies are required to restate their historical cost financial reports in terms of the period end hyperinflation rate in order to make these financial reports more meaningful.^{[7] [8] [9]}

Examples of historical cost items are issued share capital, retained earnings, retained losses, provisions, trade receivables, trade payables, salaries, wages, fees, rent, interest paid and received in the profit and loss account, taxes, VAT, all items in the profit and loss account, eg, costs, expenses, income, revenue; also salaries payable, taxes payable, rent payable, rent receivable, royalties payable, royalties receivable, salaries receivable, other non-monetary receivables, accrued expenses, other non-monetary payables, current income taxes payable and current withholding taxes payable, provisions for warranties or court decisions, liabilities and assets for current tax, deferred tax liabilities and deferred tax assets, capital reserves, prepaid expenses, goodwill, net monetary loss and net monetary gain under IAS 29, etc. It has been suggested that this article or section be merged with Issued capital. ... In accounting, retained earnings refers to the portion of net income from a period which is retained by the corporation, rather than distributed to its owners. ... In telecommunication, provisioning is the act of acquiring telecommunications service from the submission of the requirement through the activation of service. ... In accounting, receivables are cash amounts due from individuals or other businesses. ... Salary is a form of periodic payment specified in an employment contract. ... A wage is the amount of money paid for some specified quantity of labour. ... One pays a fee as renumeration for services, especially the honorarium paid to a doctor, lawyer or member of a learned profession. ... Rent can refer to: Renting, a system of payment for the temporary use of something owned by someone else. ... For other senses of this word, see interest (disambiguation). ... A profit and loss account is a financial statement that summarizes the financial transactions for a business over a period of time. ... -1... vat can be a type of barrel used for storage. ... The law of costs is typical of common law jurisdictions. ... In accounting, an expense is a general term for an outgoing payment made by a business or individual. ... Income, generally defined, is the money that is received as a result of the normal business activities of an individual or a business. ... For the tax agency in the United Kingdom of the same name, see HM Revenue and Customs. ... This article or section does not adequately cite its references or sources. ... In business law, a warranty is a promise that something sold is as factually stated or legally implied by the seller. ... In the most general sense, a liability is anything that is a hinderance, or puts one at a disadvantage. ... In business and accounting an asset is anything owned, whether in possession or by right to take possession, by a person or a group acting together, e. ... Tax rates around the world Tax revenue as % of GDP Economic policy Monetary policy Central bank   Money supply Fiscal policy Spending   Deficit   Debt Trade policy Tariff   Trade agreement Finance Financial market Financial market participants Corporate   Personal Public   Banking   Regulation        A tax is a financial charge or other levy imposed on... This article does not cite any references or sources. ... This article is about a city that serves as a center of government and politics. ... Look up Goodwill in Wiktionary, the free dictionary. ...

The restatement of historical cost financial statements in terms of IAS 29 does not signify the abolishment of the historical cost model. This is confirmed by PricewaterhouseCoopers: "Inflation-adjusted financial statements are an extension to, not a departure from, historical cost accounting." ^[10]

See also

• Real versus nominal value

Nominal value is the value of anything expressed in money of the day, versus real value which removes the effect of inflation. ...

Notes and references