On Cost Tradeoffs Between Conservative and Market Value Accounting
Arthur Andersen, Israel
Nahum D. Melumad
Columbia Business School - Accounting, Business Law & Taxation
REVIEW OF ACCOUNTING STUDIES, Vol. 2, No. 1, 1997
We identify a cost tradeoff relevant to the comparison of alternative accounting regimes. We compare equilibrium deadweight losses, due to transacting and auditing, across the historical cost, lower-of-cost-or-market, and market value regimes. We provide conditions for each of the regimes to dominate the other two. We show that while market-value accounting is likely to prevail in an inflationary setting, it may also be optimal under deflation. Similarly, lower-of- cost-or-market is likely to prevail in a deflationary setting, though it may also be optimal under inflation. Last, historical cost prevails only if the variation in asset prices is sufficiently high.
JEL Classification: M41, M44Accepted Paper Series
Date posted: September 17, 1997
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