Transcript Ch 28 notes ppt

Ch 28 Money Growth and Inflation
I. Historic Look (p628)…inflation vs deflation
• hyperinflation
II. Classical Theory of Inflation
a) P measured by CPI or GDP deflator
b) P measures number of dollars needed to buy
basket of goods
c) The Q of goods you can buy with one dollar =
1/P
d) So….1/P is the value of money measured in
terms of goods and services it buys
e) So….as P rises,,,,,the value of money falls
III. Value of Money (Supply and Demand)
• Money Supply (Fed and banking system); MS is
vertical because _____________
• Money Demand :MD is downward sloping
because __many___determinants: use of credit
cards, interest rates, etc.
• --most impt. = price level
• the higher P = lower value of money = more
money demanded to buy goods.
•
--the higher P = people hold more money.
Price Level
Value = 1/P
If P< Pe?
1
1/2
2
If P > Pe?
4
Monetary Injection…immediate impact? :
Surplus = …..
Spend or save (= more spending) = …increase AD…..but…?
Ability to produce has not changed….so…..
Price Level
Value = 1/P
1
1/2
2
4
Creates rise
in PL and
increase in
QD b/c now
need more
for every
transaction
•
•
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•
•
Q Theory of Money :
Q of M available determines
the PL
Growth rate of Q of M determines
Inflation Rate
Classical Dichotomy and Monetary Neutrality
• How do monetary changes affect other
variables (production, employment, wages)
• David Hume
•
classical dichotomy separates “real” and
“nominal” variables
Applications
• Price of corn = $2/bushel …. = nominal
• But the “relative” price: bushel of corn = two
bushels of wheat ….. = real
• Dollar prices are nominal ; relative prices are
real
• Ex: real wage = real variable
Analogy
• If MS doubles, all P double and the value of a
dollar falls by ½
• If change yard from 36 to 18 inches: all
measured distances (nominal) would double,
but the actual distances (real) would not
change
Long run vs. Short run
• 4th paragraph p 634
• Monetary changes do effect short run
• But in long run – only negligible affects on real
variables
• Monetary Neutrality –
• Changes in MS do not affect real variables
• Changes in MS do not affect :
a. Productivity and factor supplies
b. Real interest rates
c. Real wages