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Limitations of Historical Costing in Times of Inflation

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Normative theories of accounting 1: The case of accounting for changing prices

Learning Objectives Upon completing this chapter readers should: ◆ be aware of some particular limitations of historical cost accounting in terms of its ability to cope with various issues associated with changing prices; ◆ be aware of a number of alternative methods of accounting that have been developed to address problems associated with changing prices; ◆ be able to identify some of the strengths and weaknesses of the various alternative accounting methods; ◆ understand that the calculation of income under a particular method of accounting will depend on the perspective of capital maintenance that has been adopted.

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Various asset valuation approaches are often adopted in the financial statements of large corporations. Fixed assets acquired (or perhaps revalued) in different years will simply be added together to give a total euro value, even though the various costs or valuations might provide little reflection of the current values of the respective assets. Issues to consider: (a) What are some of the criticisms that can be made in relation to the practice of accounting, wherein we add together, without adjustment, assets that have been acquired or valued in different years, when the purchasing power of the euro was conceivably quite different?

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(b) What are some of the alternative methods of accounting (alternatives to historical cost accounting) that have…...

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