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Valuation of monetary items

February 24, 2012 in Uncategorized

Valuation of monetary items

Accounting values and accounts unstable monetary items on recognition at their nominal values in nominal monetary units under all accounting models – including CIPPA. Monetary items not inflation-adjusted daily over time (this currently – in 2012 – always includes all bank notes and coins) are then valued daily in fixed nominal monetary units (unstable in real value) only during the current financial period. The net monetary loss or gain is, logically and necessarily, calculated and accounted under CIPPA which implements financial capital maintenance in units of constant purchasing power. The net monetary loss or gain is also calculated and accounted as required in IAS 29 Financial Reporting in Hyperinflationary Economies. IAS 29 is not a departure from, but an extension to Historical Cost Accounting. All historical monetary items are inflation-adjusted daily in terms of the current (today´s) Daily CPI thereafter, i.e. once they are reported in historical financial reports, whether for comparison purposes or not. The historical net monetary loss or gain (a constant real value non-monetary item once accounted) is thereafter measured in units of constant purchasing power in terms of the current (today´s) Daily CPI or daily rate.

Low inflation, high inflation, deflation and hyperinflation determine the always current unstable real value of the unstable monetary unit (US Dollar, Euro, British Pound, Bolívar, Yen, Yuan, etc.) and other unstable monetary items within the monetary economy. This is because of the monetary nature of money.

The real value of money held and other unstable monetary items changes equally (all unstable monetary units are affected evenly) on a daily basis at all levels of inflation and deflation. The change is quantified with the daily publication of the Daily CPI or monetized daily indexed unit of account value during low inflation, high inflation and deflation and the daily US Dollar or other hard currency parallel rate or Brazilian-style daily Unidade Real de Valor during hyperinflation. The daily black market or parallel US Dollar exchange rate or street rate is generally constantly (24/7, 365 days a year) available in a hyperinflationary economy.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

The monetary nature of a monetary item

February 23, 2012 in Uncategorized

The monetary nature of a monetary item

A monetary item is an economic item very different from the other two basic economic items (variable and constant real value non-monetary items) because of its monetary nature, namely the unique combination of its attributes during inflation and deflation – some of which are listed below.

Monetary items are money held and items with an underlying monetary nature that are substitutes for money held. Bank notes and coins are examples of money held.

Attributes:

its three functions, namely

medium of exchange,

store of value and

unit of account,

portability,

it is generally available in small change,

it is only a monetary item within (not outside) an economy (foreign exchange is a non–monetary item),

it is legal tender,

it is always affected by inflation and deflation,

which affect all monetary items evenly,

when it has no exchangeability with foreign exchange currencies it is worthless.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

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February 22, 2012 in Uncategorized

All monetary items are always affected by inflation and deflation

A monetary item should always be inflation-adjusted daily in terms of the Daily CPI or other daily rate. This has never been and is currently (2012) still not possible with physical bank notes and coins. The net monetary loss or gain thus needs to be calculated and accounted during the current financial period under financial capital maintenance in units of constant purchasing power (CIPPA). This is also true for other monetary items not inflation-adjusted daily. All monetary items are always affected by inflation and deflation.

Under the stable measuring unit assumption it is assumed that changes in the purchasing power of money are not sufficiently important to require capital maintenance in units of constant purchasing power on a daily basis. Another way to state the stable measuring unit assumption is to state that it is assumed that the real value of money is perfectly stable over time. The stable measuring unit assumption is applied to the measurement of certain non-monetary items and all monetary items under HCA. It is not applied under CIPPA.

It is not assumed that bank notes and coins have nominal values over time: it is a fact, not an assumption. It is a fact (2012) that the nominal value of a bank note or coin is perfectly stable over time.

The real values of monetary items inflation-adjusted daily are still affected by inflation and deflation, but, by inflation-adjusting or deflation-adjusting them their real values are maintained constant by contract. They have constant real values over time, e.g. capital inflation-indexed government bonds. They are, however, not constant real value monetary items. That would only be the case at permanently sustainable zero inflation. Inflation and deflation thus always affect the real values of all monetary items within an economy. The real values of monetary items inflation-adjusted daily are maintained constant by contract. The entire cost of inflation (not actual inflation) in all monetary items (excluding bank notes and coins) would be eliminated when the total money supply (as qualified) is inflation-adjusted daily.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Valuing the three basic economic items

February 20, 2012 in Uncategorized

Valuing the three basic economic items

Monetary items

(1) The real value of the unstable monetary unit (money) and all other unstable monetary items not inflation-adjusted daily in the unstable monetary economy generally changes every day at all levels of inflation and deflation in terms of a Daily Consumer Price Index or daily monetized unit of account, e.g. the Unidad de Fomento in Chile, during low inflation, high inflation and deflation and in terms of the daily US Dollar or other relatively stable foreign currency parallel rate or a Brazilian-style daily Unidade Real de Valor index during hyperinflation.

Bank notes and coins currently (2012) cannot be inflation-adjusted. Inflation and deflation always affect the real value of bank notes and coins. All other monetary items can be inflation-adjusted on a daily basis. 20 to 25 per cent of the broad M3 money supply in Chile is inflation-adjusted daily in terms of the Unidad de Fomento according to the Banco Central de Chile. $ 2.89 trillion of sovereign inflation-linked bonds are inflation-indexed daily worldwide in terms of country specific Daily Consumer Price Indices. Inflation-adjusting the total money supply (excluding bank notes and coins) would eliminate the entire cost of inflation (not inflation) from the monetary economy. This would require complete co-ordination (everyone doing it).

Months of zero annual inflation are rare and generally not sustained for more than a month of two. During hyperinflation the real value of the very unstable monetary unit and all other very unstable monetary items often changes once per day, but, during severe hyperinflation it can change every 8 hours or so. (Hanke – Cato Journal)

Variable items

(2) The real values of variable real value non–monetary items may change all the time, e.g. the price of foreign currencies, precious metals, quoted shares, commodities, properties, finished goods, services, raw materials, etc. Variable items are valued on a daily basis in terms of IFRS excluding the stable measuring unit assumption and the cost model in the valuation of property, plant, equipment and investment property after recognition under capital maintenance in units of constant purchasing power (CIPPA). Their historic prices (e.g., of the day before) are updated on a daily basis to the current (today´s) rate in terms of a Daily CPI or daily rate when they are not valued at the current date (today) in terms of IFRS as qualified.

Inflation and deflation have no effect on the real value of non-monetary items. Historic variable items are thus not inflation-adjusted or deflation-adjusted daily. They are updated daily when they are not valued daily in terms of IFRS as qualified.

Constant items

(3) Constant real value non-monetary items are always and everywhere (historic and current period constant items) measured in units of constant purchasing power in terms of the current (today´s) Daily CPI or other daily rate.

Financial reporting has to take all three scenarios – occurring simultaneously – into account over time when an entity´s economic activities are accounted daily and financial reports are prepared and presented periodically and accessed or viewed today at the current Daily CPI or other daily rate.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Accounting values everything that happens in the economy on a daily basis

February 17, 2012 in Uncategorized

Accounting values everything that happens in the economy on a daily basis

Financial reporting is the valuing, recording, classifying, summarizing and reporting of economic transactions and events of the three basic economic items in terms of an unstable depreciating functional currency during all levels of inflation and an unstable appreciating functional currency during deflation.

Accounting is the daily valuation and recording of an entity´s economic activities.

Accounting always deals with economic values on a daily basis when an entity´s daily economic activities are accounted.

Financial reporting is a real net asset valuation of an entity on a specific day in terms of a Daily Consumer Price Index or daily monetized indexed unit of account, e.g. the Unidad de Fomento in Chile during low inflation, high inflation and deflation or a daily rate, for example the US Dollar parallel rate or a Brazilian-style Unidade Real de Valor daily index rate during hyperinflation. The real net asset value of an entity is reported in financial terms by means of valuations of the three economic items in terms of IFRS by means of the implementation of the practice of financial reporting.

A statement of financial position (a financial report) is prepared periodically reporting the real net asset value (not the real market value or the real intrinsic value) of an entity on a specific day, e.g. the end of a month, the end of a quarter, the end of six months, the end of a financial year or sometimes a longer financial period.

Financial reporting is a financial report relating to an instant in an entity´s economic activity. A report about the real net asset value of an entity on one single day: on the date of the financial report in terms of the Daily Consumer Price Index or daily rate on that day when the financial report is accessed or viewed on that day under capital maintenance in units of constant purchasing power (CIPPA).

The next day, and every day thereafter, the real net asset value of the entity is generally different because the daily valuations of variable real value non-monetary items have changed, the entity has created more constant real value in the form of constant real value non-monetary net income, has suffered a constant real value non-monetary net loss or extra capital or other resources have been contributed by shareholders or other third parties. The entity is a going concern and its real net asset value generally changes day after day.

However, the real net asset value of the entity as reported in the statement of financial position on the date of the report stays constant in real value (not in nominal value during inflation and deflation) for an indefinite period of time with reference to the date of the financial report. But, the real value of the unstable monetary unit of account (the functional currency), as represented by the Daily CPI or monetized daily indexed unit of account in a non-dollarized economy has changed as evidenced by the daily nominal change of the index value during all levels of inflation and deflation. Thus, all items in a historic statement of financial position and all historic financial reports have to be valued at the current, i.e. today´s, Daily CPI or daily rate under capital maintenance in units of constant purchasing power (CIPPA).

Economic items are valued or measured whenever economic transactions and events are accounted. Financial reporting under capital maintenance in units of constant purchasing power does not simply report on what took place in the past in nominal historical cost terms.Accounting is not just a scorekeeping exercise of what happened in the past. Accounting values everything that happens in the economy on a daily basis.

The three fundamentally different basic economic items in the economy, namely, monetary items, variable items and constant items, have economic values expressed in terms of unstable money; i.e. the unstable monetary unit of account. Economic transactions and events involving these three basic economic items are accounted in an organized manner when a double entry accounting model is implemented: journal entries, general ledger accounts, trial balances, cash flow statements, income and expenses in the income statement, assets and liabilities in the statement of financial position plus other financial, management and costing reports.

Accounting entries are valuations of the economic items (the debit items and the credit items) being accounted.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Measurement myths in IFRS

February 16, 2012 in Uncategorized

Measurement myths in IFRS

1. Financial capital can be measured in nominal monetary units.

This was originally authorized in the Framework (1989), Par. 104 (a) which states:

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

It is impossible to maintain the real value of capital in nominal monetary units during low inflationl, high inflation and hyperinflation per se. It is only possible in the single case where an entity always invests 100 per cent of the updated real value of all contributions to shareholders´ equity in revaluable fixed assets (revalued or not) with an equivalent updated fair value which is most probably only the case in hotel, hospital and other property-intensive entities.

In the vast majority of cases the stable measuring unit assumption (not inflation – as generally accepted) erodes the real value of that portion of shareholders´ equity (e.g. total retained earnings) never maintained constant under Historical Cost Accounting with sufficient revaluable fixed assets (revalued or not) currently amounting hundreds of billions of USD of constant item real value eroded in the world´s capital investment base each and every year for as long as HCA is implemented as the global, traditional accounting model. (See the ongoing financial crisis).

2. Companies´ invested capital and retained earnings are eroded by inflation.

Inflation has no effect on the real value of non-monetary items.

‘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.

The erosion of companies´ capital and retained profits is caused by the implementation of the stable measuring unit assumption as part of the traditional HCA model during inflation.

3. Changes in the purchasing power of money are not sufficiently important to require Capital Maintenance in Units of Constant Purchasing Power.

This is the stable measuring unit assumption as authorized in IFRS as part of the authorization of the Historical Cost Accounting model in the original Framework (1989), Par. 104 (a).

Changes in the purchasing power of unstable money logically require financial Capital Maintenance in Units of Constant Purchasing Power during low and high inflation, hyperinflation and deflation.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

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February 15, 2012 in Uncategorized

Inflation is generally paying more money for the same real value

Inflation is the erosion of the real value of monetary items over time.

Inflation only erodes the real value of monetary items not inflation-adjusted daily in terms of a Daily Consumer Price Index or monetized daily indexed unit of account, e.g. the Unidad de Fomento in Chile during low and high inflation or a daily foreign currency parallel rate (normally the US Dollar daily parallel rate) or a Brazilian-style Unidade Real de Valor daily index rate during hyperinflation.

The cost of inflation is the consequence of not inflation-adjusting a monetary item on a daily basis. There is no cost of inflation when a monetary item is inflation-adjusted on a daily basis.

Paying more money for more real value is a price increase. That is not inflation. That is simply a real value price increase. Generally paying more money for the same real value is inflation. That is an increase in the general price level.

There is only inflation because the nominal values of bank notes and bank coins are permanently printed or moulded on the notes or coins, respectively.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

Only a non-revisable Daily Consumer Price Index should be used with Capital Maintenance in Units of Constant Purchasing Power

February 14, 2012 in Uncategorized

Only a non-revisable Daily Consumer Price Index should be used with Capital Maintenance in Units of Constant Purchasing Power

The French National Statistics Institute makes corrections in the monthly published CPI during the next month. That is an acceptable method under Capital Maintenance in Units of Constant Purchasing Power in terms of a Daily Consumer Price Index or daily rate as implemented with CIPPA.

Revising previously published CPI data is not practical under Capital Maintenance in Units of Constant Purchasing Power since the monthly published CPI value is used for the calculation of the Daily CPI which is used on a daily basis under this capital maintenance model.

Legally binding transactions are concluded using the Daily CPI. It is not practical to revise all daily legal contracts executed in terms of a Daily CPI that can be revised afterwards.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

What would happen if Greece leaves the European Monetary Union

February 13, 2012 in Uncategorized

What would happen if Greece leaves the European Monetary Union

What would happen if Greece leaves the European Monetary Union

The Euro would become a foreign currency like the US Dollar in Greece. Very little would actually change.

It would be illegal for the Greek monetary authority to overprint a foreign currency, the Euro or the US Dollar, stating it is worth 50 per cent less.

Greek citizens would own a lot of foreign currency, namely, Euros, which play a very important role in the world economy, exactly like the US Dollar. Greek citizens would never lose one cent in value. Greeks will never lose real value holding US Dollars, Yen, Swiss Franks, OR EUROS.

All companies would carry one quoting prices in the Euro, which would be generally available in Greece, and the New Drachma, IF it were to be introduced.

Payments would be accepted in the Euro, a generally available foreign currency. There would never be an overprinting of Euros in Greece as a Drachma worth 50% less. The Euro would simply be a foreign currency like the US Dollar, the Rouble, the Chinese Yuan, the Japanese Yen, the British Pound or the South African Rand.

The Greek central bank would manage the creation of new Drachmas in Greece via fractional reserve banking in Greece. Credit would be created in New Drachmas via fractional reserve banking just like in all other economies. The Euro would circulate in the Greece economy with the new Drachma, the US Dollar, Swill Franc, etc.. The Euro would simply be a very generally available foreign currency. All products in Greece would have an almost permanently stable price in Euros and maybe an increasing price in the New Drachma, depending on how badly or how well the new economic regime in Greece outiside the EMU is being managed by the Greeks, not the Greek government.

This is not new territory. Many countries have passed this way in the past.

Inflation-adjusting the entire Greek money supply would remove the total cost of inflation (not inflation) from the Greek economy under complete co-ordination (everybody doing it).

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

IFRS authorized Capital Maintenance in Units of Constant Purchasing Power except during hyperinflation

February 13, 2012 in Uncategorized

IFRS authorize Capital Maintenance in Units of Constant Purchasing Power except during hyperinflation

Capital is required to create wealth. Sustainable wealth creation is the sustainable profitable application of real capital. Capital is generally saved up wealth or borrowed financial resources at a financial cost.

Capital needs to be separate from the human owners of capital. It is not reasonable to expect people to risk losing their homes by starting a company.

A legal company structure is thus required plus a double-entry accounting model.

A perfectly stable unit of account is required for double-entry accounting. All generally accepted units of measure, e.g. inch, centimeter, pound, gram, etc., are perfectly constant values. There is no perfectly stable monetary unit of account. A Daily Consumer Price Index is thus required to measure constant real value non-monetary items in units of constant purchasing power.

Capital is a constant real value non-monetary item. The constant real value of capital has to be maintained constant over time. A Capital Maintenance in Units of Constant Purchasing Power accounting model (CIPPA) is thus required.

The above is the ideal method of creating wealth during low inflation, high inflation, hyperinflation and deflation.

A reasonable person would apply the above method of creating wealth even if it is not authorized or required under IFRS.

Capital maintenance in units of constant purchasing power was authorized at all levels of inflation and deflation in IFRS in the original Framework (1989), Par. 104 (a) which states:

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

Capital maintenance in units of constant purchasing is not required in terms of IFRS during low inflation, high inflation, hyperinflation or deflation. It is optional to Historical Cost Accounting (financial capital maintenance in nominal monetary units) during low inflation, high inflation and deflation. It is not optional during hyperinflation. IAS 29 Financial Reporting in Hyperinflationary Economies requires the restatement of Historical Cost or Current Cost period-end financial statements in terms of the period-end CPI. IAS 29 thus disautorized Capital Maintenance in Units of Constant Purchasing Power during hyperinflation.

PricewaterhouseCoopers states the following regarding the use of the HCA model during hyperinflation:

‘Inflation–adjusted financial statements are an extension to, not a departure from, historical cost accounting.’

Financial Reporting in Hyperinflationary Economies –Understanding IAS 29, PricewaterhouseCoopers, May 2006, p 5.

A standard takes precedence over the Framework according to IAS 8, Par. 11. IAS 29 thus applies during hyperinflation: thus, Capital Maintenance in Units of Constant Purchasing Power is not authorized in IFRS during hyperinflation.

Financial capital maintenance in nominal monetary units (HCA) is a fallacy: it is impossible to maintain the real value of capital in nominal monetary units during inflation per se. It is only possible in the single case where an entity always invests 100 per cent of all contributions to shareholders´ equity in revaluable fixed assets (revalued or not) with an equivalent updated fair value which is most probably only the case with hotel, hospital and other property-intensive entities.

Every company in the world implementing IFRS can now change over to Capita
l Maintenance in Units of Constant Purchasing Power, except entities in economies subject to hyperinflation.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.