Another difference between them is that under historic cost accounting entries are made only when an actual transaction arises while under fairvalue accounting measurements are updated periodically even in the absence of explicit transactions.
In historic cost accounting reported amounts can be calculated based on internally available information about prices in past transactions, without reference to outside data whereas fairvalue method requires current market prices to determine reported amounts, which may require estimation and can lead to reliability problems.
In accordance with risk management, the fairvalue method easily reflects the most risk managed strategies while the historic cost method requires complex rules to attempt to reflect the most effect of most risk managed strategies.
There has been a shift in the economic situation around the world and henceforth, we see a shift taking place in the accounting principles too. While historical cost method might have numerous advantages, the fairvalue has much more importance in today's volatile markets.
Fairvalue allows users of financial statements to obtain a more truer and fairer view of the company's real financial situation as only fairvalue reflects the prevailing economic conditions and the changes in them. By contrast, historical cost based accounting shows the conditions that existed when the transactions took place and any possible changes do not appear until the asset is realized. This, therefore gives fairvalue a favourable position in front of the standard setters, IASB and FASB.
Defence of the full valuation model draws upon the criticisms that may be leveled against the mixed valuation model, where some instruments are recorded at fairvalue and some according to their historic costs. In the mixed model, the criteria for valuing an instrument at its cost or market value do not depend on characteristics of the instrument but on whether the institution intends to hold it long term or trade it. Thus, if a mixed model is applied, identical instruments may be valued differently and have a different effect on the balance sheet and income statement.
The mixed model also creates opportunities for a degree of accounting arbitrage, meaning, the classification rules might be interpreted so as to categorize assets and liabilities so that