520 CHAPTER 13. MEASURING EXPOSURE TO EXCHANGE RATES
assets will not be affected. Thus, according to this method, we should adjust only
the monetary (not the real) assets and liabilities for changes in the exchange rate. It
follows that only the net foreign-currency monetary position, financial assets minus
debt, is exposed.
Example 13.11
In Table 13.5, the Net Worth figures under each of the two possible year-end ex-
change rates differ bymtl+95.7. The exposure was 2000−4900 =−2900 (aud),
under this method.
Evaluation- The Purchasing Power Parity view of the world has received little empirical
support, except vaguely in the never-arriving long run.^5 Accountants usually
do not rely on highly uncertain prospects. - In addition,pppjust says that translated values of assets abroad tend to be
equal to values at home. If true, this would mean that changes in values of
foreign and domestic assets are equal to each other; but there is no claim that
the value change at home is zero. - Likewise, in the “closely related operations” versions of the story the non-
monetary assets are treated like they would have been treated if they were
at home and, therefore, left unchanged. But that’s historic costing. In many
cases, under replacement value or fair value the value of the foreign-based asset
would differ from one at home, and the argument would break down. - This measure of exposure, financial assets minus debts, is likely to be negative
for most firms. Thus, under the Monetary/Non-Monetary Method, a devalua-
tion will typically lead to an accounting gain rather than to a loss. But, from
our earlier discussion on a related point in the Current/Noncurrent method,
economic reality should be very different for different firms, so the hope that
this method produces the true number is, again, slim. - Also here,hcrelative values differ fromfcones, affecting ratios; there is no
consistency. - Finally, the resulting mixture of actual and historic translations is again hard
to interpret.
To translate the subsidiary’s income statement, the Monetary/Non-Monetary
Method uses an average exchange rate for the period, except for incomes or costs
(^5) Recall that all we know is that uncertainty about future real exchange rates does not grow pro-
portionally with the length of the horizon, which is a far cry from uncertainty somehow disappearing
entirely the longer one waits.