Econ 2006 Chapter 6 January 23

Econ 2006 Chapter 6 January 23

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Econ 2006 Chapter 6 January 23, 2008 The monetary system, prices, and inflation Money serves three functions 1. A store of value: a means if storing wealth 2. A unit of account: a common way of measuring value (a way of denoting prices); and 3. A means of payment: a commonly accepted means of effecting trade. (it’s a role as a medium of change) The U.S. operates under a flat paper standard. Our money is a paper issued by flat ( that is, by decree) by the federal government. It is accepted as a medium of exchange due to its special legal status as money Each piece of paper currency has amblazoned on it “ This note of legal tender for all debts, public and private We are interested in the price level (average dollar price) and how it changes Consumer Price Index, is constricted by the BLS as follows: 1. A basket of consumer goods of interest to the average urban consumer is determined 2. In addition, a base year is determined. Currently the base year is 1983
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Unformatted text preview: 3. The dollar cost of the basket is determined in 1983 prices 4. Example: The basket costs $200 in 1983. .the dollar costs of the basket is determined for each year of interest, for example in 2003 the basket cost $350 5. The CPI for 2003 is calculated as CPI = {2003$cost/basket}/(1983$cost/ basket) x 100 Note there are different price idicies depending on the goods and prices of interest Constructing a CPI for each year allows one to determine what has happened to the overall price level through time. See table 1 How is CPI used 1. Policy makers use it as a measure of overall price stability, as a measure of inflation Time t inflation rate = CPI-CPI/CPI x 100 See figure 2 2. It is used to index payments and thereby to adjust payments for changes in the purchasing power of money 3. It is a way to translate from nominal to real values...
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