Accounting for a New Economy

In the current crisis, we see the seeds of a new economy emerging:

• based on the common good rather than private greed,
• adapted to global climate change and the end of cheap oil,
• and promoting social justice.

These seeds take different forms and use different ideas. We don't know which of them will bear fruit.

However, one thing many of them have in common is that the standard accounting and business administration systems will either not work for them or will hinder their full development.

We propose here that the accounting model that we use for Group Accounting - REA (Resources, Events and Agents) - will work for all of these approaches. REA can also help to make all of the groups using all of these different approaches compatible, that is, able to join with each other in community, regional and global economic systems.

The seeds

Another thing all of these approaches have in common is cooperative relationships among the participants, at least to some extent. (By "cooperative" here, we mean the common sense of the word, not necessarily the legal cooperative business form.)

All of these seeds (and others we did not name) are small, and they need to operate within the existing system with all that entails. But a new economic system will not be built from scratch, it will adopt approaches that have been tried and found to work.

Examples:

• Families: many families use cooperative relationships among their members. They do not charge their children for room and board (at least while they are children), They take care of their elders without repayment.
• Buying clubs: friends pool their buying power to make their money go farther.
• CSA's: Community Supported Agriculture, where a group of people support a farm and share in the produce.
• Food Distribution Groups: these are groups of farmers who aggregate their products and distribute them to groups of customers. They are popping up all over the place.
• Co-housing: groups of families buy property together. Some of the property is usually held in common, some by each individual family. Some of these co-housing groups have developed methods of governance and cooperation that may be useful for any new-economic organization.
• Cooperatives: coops are an old form, used around the world. Some coops have become like normal businesses (and are really part of the old economy). Some are consciously part of the new. But many of these cooperatives have developed methods of planning and distribution for their members that will be useful in a new economic system.
• Open-source software development communities: some of these have no legal form, some are non-profit corporations, some are sponsored by for-profit corporations. The relationships among the participants range from dictatorial to cooperative, but they often have a high degree of cooperation. We belong to three such communities - Python, Django and Pinax - that have a high degree of cooperation. And we are working to start a cooperative open-source community around Group Accounting and REA software, although the group is still pretty small. The best open-source software communities have learned to work collaboratively with members all over the world, 24 hours a day. The best groups are much more productive than proprietary software companies.

How REA fits in

REA is a simplified method of accounting that was initially developed by Professor William McCarthy of Michigan State University in 1982, and since has been adopted and extended by a growing global community. As you can see from the community page, REA has been incorporated in ecommerce standards by the United Nations and ISO, the official international standards organization. People from Group Accounting contributed significantly to both of those standards.

REA's benefits for a new economic system include:

• REA does not require any accounting knowledge (for example, no debits and credits), so it's easy to use. While Quick Books (for example) makes accounting pretty easy for some business functions, REA can do it for everything, including functions that Quick Books does not handle like inventory, production and distribution.
• Unlike typical double-entry accounting which records economic events from the viewpoint of one company, REA can take a neutral view, which means it can be used for groups of all sizes and legal forms. (That's why we use it for Group Accounting.)
• REA's neutral view means it can scale up from single individuals to companies to groups of companies to regions to nations to the whole planet.
• REA does not assume everything is exchanged for money in standard currencies: it works for barter, sweat equity, and alternative currencies.
• REA can account for "externalities" like air, water, soil, and other necessities of life that are ignored by "standard" accounting.

The ABC's of REA

Resources include products, services and money.

Agents include any person or organization who is responsible for some resources.

Events include exchanges of resources between agents, consumption of resources, and production of new resources.

REA records economic events exactly as they happened, with no interpretation (unlike double-entry accounting, which requires an interpretation of what happened from the viewpoint of one of the agents involved in the event).

For example, Farmer A traded 100 units of wheat to miller B on March 9, 2008 at 2pm UT for 100 units of bio diesel fuel, which Miller B got from digester D.

From the basic economic event records, REA software can automatically generate all of the standard financial reports, lots of other useful reports, and can even generate those double-entries automatically if somebody really really wants them.

Also, because the basic event records in REA are naturally related, we can trace the flows of resources through a community (for example, the bio diesel feedstock from one farmer to the digester, and then the biodiesel fuel through the miller to another farmer).

An economic system is a system (duh)

Some of the new approaches want to revert back to a "simpler time" when "main street" and independent small businesses supposedly provided the necessities of life.

Not only was this never really true, those "independent" small businesses were all very dependent on larger systems of trade and distribution.

And in a new system, people - and communities - will be interdependent as well. So even if the end of cheap oil forces more production to become local (which we think will happen), those local communities will still need systems of coordination among the producers and consumers of the necessities of life. And they will probably continue to exchange goods with other communities.

So either all these exchanges will revert back to the current economic system, which means all the current problems will continue on some scale, or they will evolve something new and better.

Because REA can relate all resource flows in a community or region, it is uniquely suited to a system approach.

We did something like this for timber, where we tied together all of the resources flows among a group of timber growers, loggers, sawyers, wood processors and home builders. The result would have been transparent economic relationships among the whole group. Unfortunately, the group fell apart due to trust issues (see next topic), proving once again that cooperation is not easy. But we want to do similar systems for whole communities, including all of the major economic flows for food, housing, energy and other necessities of life.

We're starting to develop this idea of whole-local-community or region economic systems here.

Communities of Trust and Transparency

One of the problems with the current economic system is that nobody can trust anybody else. By definition.

And resource flows are anything but transparent. For example, the Federal Reserve refuses to say where the bailout money went, and the bank recipients refuse to disclose their counterparties.

In contrast, most of the new approaches develop communities that do learn to trust each other.

Here are two communities of trust that now use double-entry accounting, and what they could do better if they used REA:

• Associative Economics uses a standardized double-entry system and shares financial reports among groups of local enterpreneurs.
• Coop Metrics uses a standardized double-entry chart of accounts and shares financial statements among local food coops and an umbrella organization that analyzes the information and reports on best practices.

Both of these efforts are useful. But they are limited to the standard accounting financial reports, which means:

• the information has been interpreted and is subject to creative accounting (which may undermine trust);
• the accounting structures are rigid, difficult to change, and do not easily accommodate new analytical approaches;
• the information is not detailed enough to be used for trading and economic (for example, supply chain) planning among members of the group;
• the information cannot be used to follow the flows of resources (including money) through a community.

REA can generate the same financial reports, but can also deliver many other reports, flexibly, as required on a moment's notice, and can also be used for trading, resource flow analysis, and economic planning.

You can read more about REA's suitability for managing larger economic system forms like supply chains, business clusters and ecosystems here.

Are we saying everybody should just use our Group Accounting software?

Well, that would be nice, but that is not realistic.

For one thing, we are still working on our software. We want to develop it by working with real-life groups, not from our "good ideas". That takes time.

For another thing, we see several other projects working on software for new economic approaches. We would like to find ways to collaborate with them.

What we are saying in this article is that REA is a good basis for new economic approaches, and also for collaboration between these different software projects. And the "standard" double-entry accounting methods are not.

We'd be happy to teach other software development groups about REA, and help them develop REA-based software. If you are interested, send us an email.