Some thoughts on "A cost-benefit analysis of accounting for inflation"

In a recent issue of this Journal, Espahbodi and Hendrickson (1986) attempt a cost-benefit analysis of three different models for accounting for inflation and specific price changes. Their underlying idea is that different accounting methods affect the distribution of resources within and between industries. Here is questioned how realistic are their assumptions as to how different resource distributions are achieved. First, they assume that resources are redistributed between firms, by what seems to be a merger process, on the basis of expected profitability. Literature on merger target selection is reviewed which suggests that merger target selection is more complicated than consideration of expected profitability alone. Second, they assume that the acquiring firm will be able to achieve the same social return on the acquired firm's assets as on its own assets. Literature on merger profitability is reviewed, based on both accounting profitability and market value approaches, which suggests that, on balance, it is debatable whether mergers create social gains. Thus, it is argued that the underlying processes by which alternative accounting methods are assumed to create social gains and losses are somewhat unrealistic. Such a conclusion casts doubt on the reliability of the public policy implications of the results contained in the article by Espahbodi and Hendrickson. © 1987.