Take a look at the second effect...nominal income is understated because
appreciation of asset values due to inflation is ignored. All this means is
that if an asset increases in value, we should consider that income, just like
we consider the depreciation is considered a negative income. Since we aren't
considering appreciation due to inflation, our reported income is smaller than
it should be (understated). Now, if an asset increases in value because of
inflation, then that increase in value is not an increase in purchasing power.
Thus it is correct to consider this nominal (not real) income.
As far as these effects off-setting, they won't. Say there is a $100 increase
in asset value due to inflation and our company is depreciating assets in even
increments over 5 years. We don't include the extra $100 in asset value on the
books, so income is understated by $100. The depreciation figure would also be
understated, however, the depreciation schedule would spread this $100 over 5
years, so in the present year it would only be understated by $20. This effect
would overstate income by $20. The net effect would be to understate income by
$80. (However, if there was no inflation over the next 4 years, each of them
would overstate income by $20 because the depreciation that is too small would
continue to play out.)
I hope this is accurate, and I hope it helps.
Chris