Arnold Kling

Enron as a Hedge Fund

Arnold Kling, Great Questions of Economics
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Victor Canto shares the view that Enron was like a hedge fund.

its demise may have reminded you of a number of players in the past few years that have used sophisticated financial instruments to soar to incredible heights only to crash later. Long Term Capital Management (LTCM) and several other hedge funds that imploded come to mind.

As he points out, it is quite difficult to evaluate the balance sheet of this type of company. So-called market value accounting, in which every item on the balance sheet is valued at current market prices, is widely viewed by economists as a the right approach. That is fine in theory, but in practice it is rarely followed.

Discussion Question: If you use market value accounting to measure the current levels of assets and liabilities, then should you not use market value accounting to measure income? That is, let income be the change in the market value of assets minus the change in the market value of liabilities?

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