Accounting conventions. A cause of economic instability and company failure?

Fenton F. Robb

European Management Journal, 1987, vol. 5, issue 2, 94-100

Abstract: The use of conventional historic cost accounting during periods of inflation leads to the overstatement of profit; this in turn may result in overdistribution of resources which should have been used to preserve the income-earning base of the firm. Should such overdistributions occur, they will add to the circulation of money without a corresponding increase of output and hence increase inflation. During deflation the opposite effects may occur. Thus accounting conventions could amplify inflation or deflation and lead to economic instability. The distortions which thus may be imposed on the economy's income earning capacity and the increased risks arising from the consequent economic instability are likely to lead to corporate failures. Should it be found that accounting conventions operate in this way then, for reasons which are outlined, efforts should be made during a period of relatively low inflation to change the accounting conventions. Other implications of the hypothesis are also discussed. "The book should all be reckoned in one kind of money; though you may name within all sorts of money which may be used: ducats, 'denari', florins, gold 'scudi', or whatever they may be. But in reckoning up, it is best that it all be of one kind for as you begin the book so must you continue".

Date: 1987
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