Why is monetary unit one of the basic accounting principles and concepts?

The basic accounting problem created by the monetary unit assumption is that it does not account for the outcome of inflation or increase in price and the corresponding decrease in purchasing power of people. The FASB expects unadjusted dollar amounts to be used for determining items listed in financial statements.

We know that money is considered and widely accepted as a unit of account. We also aware of the fact that money is used for payment of articles we acquire in business.  Money is a ‘good’ which is also used for store of value. Money is the best way providing basis for comparing things and values.

What is Monetary Units Assumption Definition

Monetary Unit Assumption in accounting principle states that ‘money’ will be taken as unit of measurement while recording business transactions and economic events. This accounting principle assumes the expression the economic events (transactions) and relationship among transactions in terms of money.  In more simple words we can say that Monetary Unit Assumption is the monetary expression of economic events.

Explanation

Since the money is commonly used as a way of comparing values, therefore, money is adopted as a measurement unit by all the accounting systems. According to this accounting concept, all business transactions, economic events and other accounting data are converted into money at first and then recorded in the books of accounts. Monetary Unit Assumptions is very imperative principle in nature because if the transactions are not converted into common unit (money), then the fair comparison between various types of assets (such as fixed and floating assets) or comparison between different types of transactions becomes almost impossible.  Therefore, only those transactions which are convertible to this medium of exchange (money) are recorded in the books of account and accordingly transactions which are not readily convertible into money, cannot be recorded. In more simple words, only those transactions which are necessarily monetary events are recorded. Money is assumed stable, relevant and useful for business transactions to be used as unit of measurement.

From the above discussion we can understand that the money performs the following key functions:

1. It is a medium of exchange;
2. It is an accounting unit, facilitating pricing system;
3. It can be used as store of value i.e. a claim to goods/services;
4. It is used as a standard of deferred payments which means that lending and borrowings are recorded in terms of money.

Problems and Examples

There are some problems associated with the concept of ‘monetary unit assumption’. These are briefly discussed as under:

Monetary unit assumption concept’ does not take the ‘inflation’ matters into consideration. This means that the concept and implication thereof is totally independent from the effects of inflation taking place in the economy. You will understand this from the following examples:

1. United Automobiles (Pvt) Limited purchased a piece of land to store its raw materials for $ 40,000/- in the year 2001. Under the Monetary Unit Assumption principle, this land was recorded in the books of accounts at same price. With the passage of time due to inflationary factors the asset has attained considerable high market value and now in the year 2016, this assets is enjoying a market value of $ 340,000/-. But still this asset is being shown on the face of balance sheet with its historical cost of $ 40,000/- because inflationary factors or inflation does not influences the monetary concept in accounting.
2. There are many other transactions and events which play crucial role in the business and are important to be recorded but the same could not be recorded just because of their inability to be expressed in monetary terms. Example includes loyal and competent workforce which for sure have vital contributions towards business success and profitability. But this workforce cannot be recorded as an asset (human resources) because the same cannot be expressed in terms of money.
3. This accounting concept is considered as an inelastic yardstick for measurement because the purchasing power always tends to change and seldom remains stable.

For the above reasons, sometimes money measurement concept is thought to be not ideal. Yet this has been adopted universally as there is no difficulty in adopting the money measurement rule and it is not possible to adopt any other better measurement scale that can easily be understood by the users of accounting information system.

Monetary Unit Assumption: Definition

The monetary unit assumption states that all accounting records should be made in terms of monetary units. The monetary unit assumption is also known as the money measurement concept.

All transactions are measured in monetary units and recorded in the books of accounts in terms of money, which is generally the currency unit used in a country.

In the United States, for example, all accounting records are maintained in terms of the US dollar. A multinational company, however, may maintain accounts in dual currencies.

Monetary Unit Assumption: Explanation

A famous saying is: Money is what money does. This means that money acts as a standard unit to measure the value of goods and services.

Under the monetary unit assumption, an asset purchased for $12,000 in 2003 and another asset purchased for $12,000 in 2016 would have the same cost. They would incur the same depreciation charge for accounting purposes.

Why is monetary concept important?

Why is monetary unit assumption important?

What are the advantages of using the monetary unit as a basis for financial transactions?

Which concept is also known as monetary unit concept?