One of the long-standing difficulties in cost accounting has been the alloca-tion of “indirect costs” to various objects such as products, departments,divisions, etc. For example, traditional cost accounting has long depended onpredetermined overhead rates in order to apply the indirect cost of manufac-turing to different products by means of some base such as direct labor cost ordirect labor hours. Mises was well aware of the problem of assigning indirectcosts for purposes of departmental profitability analysis:
The elaborate methods of modern bookkeeping, accountancy, and businessstatistics provide the enterpriser with a faithful image of all his operations. Heis in a position to learn how successful or unsuccessful every one of histransactions was. With the aid of these statements he can check the activities ofall departments of his concern no matter how large it may be.
There is, to be sure,some amount of discretion in determining the distribution of overhead costs.
Butapart from this, the figures provide a faithful reflection of all that is going on inevery branch or department. (Mises 1962, p. 32; italics added)
During the past decade cost accounting has come under vigorous attack onthe grounds that traditional approaches to allocating costs are fraught withconsiderable arbitrariness and contain substantial errors which can lead tomisguided decisions dealing with such matters as pricing, outsourcing, capac-ity planning, and profitability analysis for various product lines and othersegments of business activity. For example, a costing program at a WhirlpoolCorporation appliances plant revealed that a traditional overhead allocationper unit of a particular product was $65.46 when a more accurate cost tracingshould have assigned $728.92 (Greeson and Kocakulah 1997). Such distortions stem from the fact that cost structures in many companieshave undergone profound change. Escalating overhead and other
or“support” costs accompanied by a major diminution of direct labor cost as aproportion of total product cost have resulted from the increasing degree ofskilled labor, automation, and computerization in manufacturing and otherareas of business activity. In a typical plant today you will often find extensivesophisticated equipment with virtually no “direct labor” workers, i.e., workerswho literally touch and handle each unit of product. Workers, now describedas “knowledge workers,” are busy overseeing computerized machines and“interfacing” with the production process through computer terminals lo-cated throughout the plant. At the same time other support activities beyondthe factory, such as quality control, supply chain management, informationtechnology, customer service, engineering, and new product development,have also risen significantly and become more complex, further increasing thelevel of
costs. As a result there are fewer variable direct costs and
4THE QUARTERLY JOURNAL OF AUSTRIAN ECONOMICS VOL. 3, NO. 2 (SUMMER 2000)