EXPLORING THE PROS AND CONS OF FAIR VALUE ACCOUNTING

Abstract The speed of globalization in the capital markets and the increasing complexity of financial instruments have caused financial statement users to question the relevance and usefulness of historical cost accounting (HCA). The propensity to use fair value accounting (FVA) is imminent as we enter into a borderless economy and as financial markets evolve that require more current and relevant financial information. The U.S. Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS) joint effort to establish a uniform accounting standard has caused alarm to U.S. companies and accounting professionals. They contend that fair value accounting has some inherent flaws that will cause adverse effects in the economy. This paper will compare fair value accounting and historical cost accounting and will discuss the advantages and disadvantages of the two valuation methods. It will also explore several issues embedded between the two valuation methods and will examine other alternatives possible to reduce the limitations inherent between the two valuations.

Key words: fair value accounting, historical cost accounting, and pro-cyclicality

Introduction The use of fair value accounting has gained so much attention in the past decade due to the global economy and increasing complexity of financial instruments. Many critics believe that fair value accounting offers more relevant and useful financial information compared to historical cost accounting. In contrast, proponents of historical cost accounting claim that the method is more reliable because the data is supported by independent documentary evidence such as invoice, receipts, and checks. In light of these circumstances, it is timely to examine the polarity of these issues and clarify the competing