MACROECONOMICS AND THE GLOBAL BUSINESS ENVIRONMENT

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MACROECONOMICSAND THE GLOBAL BUSINESS ENVIRONMENT
2nd edition

• Money and Prices

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Key Concepts

• Inflation
• Hyperinflation
• Inflation Tax and Seignorage
• Monetarism
• Money Neutrality
• Quantity Theory

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Inflation

• The rate of change in the price level

P(1) P(0)
Rate of Inflation
P(0)
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UK Prices, 1661 - 1991
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UK Inflation, 1661 - 1999
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U.S. Prices, 1800 - 2000
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G7 Inflation, 1975 - 2000
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Measuring Inflation

• Consumer Price Index (CPI)
• Producers Price Index (PPI)
• GDP Deflator
• Ratio of Nominal GDP to Real GDP
• Mis-measurement issues
• Substitution
• Quality

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Money Neutrality

• Price level is a yardstick
• Nominal measure
• Does it matter which unit we use?
• Double all prices and incomes
• Is your welfare the same, better, or worse?

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Costs of Inflation

• Tax system
• Bracket creep
• Shoe Leather costs
• Menu costs
• Transactions costs associated with changing
  prices
• Relative price issues
• Price signal sends wrong message
• Unexpected inflation
• Harms savers
• Effect on long-run growth

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What about deflation?

• Two types of deflation
• Demand-induced
• Price uncertainty
• High ex-post real interest rates
• Real burden of debt
• Unexpected deflation
• Supply-induced

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Money

• Money was never a big motivation for me, except
  as a way to keep score. The real excitement is
  playing the game.
• Donald Trump, "Trump Art of the Deal"
• Money is a terrible master but an excellent
  servant.
• Phineas Taylor Barnum
• A billion here, a billion there - pretty soon it
  adds up to real money.
• Senator Everett Dirksen (1896 - 1969)

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Money

• Why money
• Eliminates double coincident of wants problem
  facing barter economy
• Role of money
• Store of value
• Medium of exchange
• Unit of account
• Kinds of money
• Commodity Money
• Backed currency
• Fiat Currency

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Money
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The Money Supply

• M1
• Currency
• Checkable deposits (i.e. demand deposits)
• Travelers Checks
• M2
• M1
• Savings and small time deposits (including money
  market deposit accounts)
• Retail money market mutual funds

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Monetary Aggregates, (Billions )
M3
Source Board of Governors On-line Statistics
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Money Multiplier
Vault Accumulation
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26.10

100

100
190
261

1000
Total Money
Base Currency
M1
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Money Multiplier
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Money Multiplier 1/(reserve requirement)

• Assumes banks dont hold excess reserves
• Assumes loans make it back to bank as deposits
• Assumes currency doesnt leave country
• 3 parties that help determine money supply
• Central bank
• Private banks
• Individuals

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Seignorage

• How does it work?
• Direct print money
• Indirect print money, buy and hold government
  debt
• Inflation Tax
• Decline in value of cash holdings due to
  inflation
• Seignorage can be the same as the inflation tax

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Hyperinflation

• High and persistent rate of inflation
• Relationship to fiscal policy

Finance government. spending via inflation tax
Rising Inflation
Declining value of Money
People decrease money holdings by buying goods
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The German hyperinflation 1922-23 (January 1922
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Further Examples
A 200,000 and 500,000 German Mark coin from 1923

• A 500,000,000,000 (500 billion) Yugoslav dinar
  banknote circa 1993 the largest nominal value
  ever officially printed in Yugoslavia.

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Quantity Theory
MV PY
Velocity the circulation rate of money
Inflation is always and everywhere monetary
phenomenon. Milton Friedman
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?M ?V ?P ?Y

• Assume V constant, so ?V 0
• ?M ?P ?Y
• ?Y determined by investment, technology, etc.
• ?M is proportional to ?P

Growth in Money Supply
Seignorage
Inflation
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US Inflation and Money Growth
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UK Inflation and Money Growth
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Cross-country Inflation and Money Growth, Long
Run
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Cross-country Inflation and Money Growth, Short
Run
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Summary

• Inflation
• Measures
• Costs
• Deflation
• Money
• Definitions
• Multiplier
• Seignorage and Inflation Tax
• Hyperinflation