Changes in the purchasing power of the dollar are so small from one period to the next that they are ignored in the preparation of basic financial statements.
Monetary Unit Assumption
This statement is partially true and partially false.
It is true that changes in the purchasing power of the dollar from one period to the next are often small. However, they should not be ignored in the preparation of basic financial statements. Changes in the purchasing power of the dollar, also known as inflation, can have a significant impact on the financial statements of a company.
Ignoring inflation can result in misleading financial statements. For example, if a company reports a profit of $100,000 in year one and $100,000 in year two, it may appear that the company’s performance has remained stable. However, if inflation was 3% over that period, the company’s real profit in year two was actually only $97,000 in year two dollars. By ignoring inflation, the financial statements do not accurately reflect the company’s true performance or financial position.
Therefore, it is important for companies to take inflation into account when preparing their financial statements. This can be done by adjusting financial values for inflation, using inflation-adjusted financial ratios, and disclosing the impact of inflation in notes to the financial statements.
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