Historical cost principle6/3/2023 ![]() ![]() The argument of this paper consists of two parts. Their rationality is, in the terminology of Vernon Smith (2003), ecological, that is, the unconscious result of an evolutionary process where behavior gradually adapts to the environment. The traditional accounting principles can therefore still be rational even if they have never been rationally designed by anyone. ![]() Historical costs, e. g., although they are sunk costs, help to generate information concerning the magnitude of both positive and negative consequences of past decisions, and conservatism might not guarantee profit-maximization, but it enhances the probability of surviving rough times. Put into the context of a process of trial-and-error, the “irrational” principles seem to make a lot of sense. Although the behavioral traits which correspond to these principles are sometimes described as irrational or as anomalies, they appear to confer an evolutionary advantage to those who adhere to them in an uncertain environment. It is argued that this parallel is no coincidence. The historical cost principle and conservatism are common features of human behavior. Especially behavioral economics provides a fertile playing field, complementary to neuroscience, for those who look for instances where the logic of these principles pops up in relevant contexts. There are systematic similarities between them and other aspects of human thought and conduct. It finds that there is indeed more behind these principles than mere tradition and that they are in no way arbitrary. Tying on recent research by Waymire and Basu (2007, 2011), Basu (2009), and Sunder (2005), it tries to illuminate the rationale behind the evolution of the traditional accounting principles. The present paper substantiates this claim. These culturally evolved principles, they argue, must have a deeper meaning as they can be rediscovered in the logic of the human brain. They show that some of the most important accounting principles connected to the traditional revenue-expense approach, namely the historical cost principle and conservatism, are compatible with the results of neuroscience. In a series of recent papers, Dickhaut, Basu, McCabe and Waymire (2009), Dickhaut (2009), Dickhaut, Basu, McCabe and Waymire (2010), and Waymire (2014) provide new arguments against the abolishment of these principles in favor of those advocated by the two main accounting standard-setters. For many and diverse reasons, the displacement of the old principles has been criticized severely. Since the early 1970s, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Committee (IASC), which later became the International Accounting Standards Board (IASB), have been trying to develop and enforce financial accounting standards that contrast strongly with the historically evolved accounting principles ( Littleton, 1933 Ijiri, 2005, p. Concluding Remarks on the Symposium on the Evolutionary Advantage of Cost Accounting and Conservatism. The revenue-expense approach thus turns out to be congenial to the organization of the market economy.īraun, E. In contrast, the revenue-expense approach provides private information to the market à la Hayek (1945). Financial accounting according to the balance-sheet approach does not add new information to the market process it only summarizes on the firm level information provided by the market. I combine this observation with a market process view of the economy. It is especially with respect to Prospect Theory that a close parallel can be identified. These principles are in line with human behavior as found in numerous laboratory and field experiments. I further argue that a solid basis for explaining the rationale of the culturally evolved accounting principles can be found in behavioral economics. Only the latter is clearly based on a coherent model of the economy, namely neoclassical economics. This is the reason why the efforts to defend them against the balance-sheet approach endorsed by standard-setters have encountered severe difficulties. Their functionality is the result of cultural evolution, not of unitary human design. I argue that they are ecologically rational. The principles characterizing the traditional revenue-expense approach to accounting cannot be traced back to a distinct event.
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