In full recognition that exchange rate fluctuations have no impact on account balances translated at historical rates and that such balances are not subject in the accounting sense, to exchange rate risk, this research describes and utilizes economic theories of currency exchange markets which are consistent with the available empirical evidence.
Since the events of 1969 to 1973 which led to the current period of floating exchange rates, translated financial statements denominated in foreign currency has been an accounting problem of considerable importance. With very little information available on the costs (actual and opportunity) associated with different translation methods, this study attempts to evaluate the translation methods based on the Financial Accounts Standard Board (FASB)--conceptual framework.
Key Words : Exchange rate risk; Translation methods; Accounting problem
JEL Classification: F31, F42, G15
Since the events of 1969 to 1973 that led to the current period of floating exchange rates, translated financial statements denominated in foreign currency has been an accounting problem of considerable economic importance. In December 1973, the Financial Accounting Standards Board (FASB) issued Statements of Financial Accounting Standards (SFAS), (1) which moved the Accounting profession from a position of laissez-faire to requirement that extensive disclosures of a company's translation practices be made. In 1975, the FASB adopted SFAS 8 which required a single translation method. In December 198 I, the FASB adopted a new standard for foreign currency translation, SFAS 52. The method of SFAS 52 combines conventional, historical costbased asset measurement in the foreign currency with translation at the current rate and deferral of translation gains and losses.
This study evaluates SFAS 52 and several alternative translation standards. Evaluation requires a conception of attributes considered desirable. Unfortunately, different attributes are considered desirable by different interested parties, and the accounting profession is faced with a theoretical and practical problem in selecting evaluation criteria--the problem of social choice. The social choice problem has not been resolved in the accounting literature. Demski considers attempts to use qualitative characteristics, such as relevance and verifiability, in the establishment of accounting standards (21)--His 'Impossibility Theorem' shows that, with certain assumptions regarding users of financial statements, qualitative characteristics may not be used to develop an optimal normative theory of accounting.
The FASB must, however, set accounting standards and has chosen in Statement of Financial Accounting Concepts (SFAC) No. 2 to profess that qualitative characteristics will be used for the purpose of standard establishment. (3) Cushing has noted that relaxation of the limiting assumption of heterogeneous users invalidates Demski's proof of the Impossibility Theorem. (4) This paper follows the FASB in assuming that qualitative characteristics may be used to distinguish accounting alternatives. The criteria applied by the authors assume a financial statement user group with tastes within a prescribed realm of similarity. No absolute justification for the use of qualitative characteristics to establish accounting standards is, or can be, given--The intention is rather to assume with the FASB concept statements that reliance on qualitative characteristics is reasonable, and to see where this reliance leads....