The purchasing power of money is an important moment in the financial education system for every person who wants to put their affairs in order and understand the work of the monetary mechanism in order to achieve personal success and prosperity.
Introductory information
During the evolution of the development of types and forms of money, the question of their value came to the fore. It can rightfully be considered the most difficult in economic theory in general, and in particular in the theory of money. After the loans having no intrinsic intrinsic value were established as the dominant form, this issue became further complicated. After all, how was it before that?
The cost of full money depended on the product that performed their role. Thanks to this, the confidence of market entities was ensured. And they accepted all payments. When the demonetization of gold was carried out (it lost its monetary functions), a completely different situation had already arisen. And it became even more relevant to understand what the purchasing power of money is. Briefly - this is the amount of goods and services that can be purchased for one unit.
How is the current situation?
Current carriers of monetary functions do not have intrinsic value. But they are accepted when paying for real values. That is, they have real value. This situation can be explained by the fact that all types of modern money are debt obligations of certain subjects of a market economy. Difficult to understand? Let's look at a small example.
Banknotes and coins are debt instruments issued by the central bank. Behind them is the economy of entire countries. Deposit money is a liability of commercial banks; bills are issued by enterprises and other commercial structures. It should be noted that there is a considerable risk associated with the purchasing power of money.
What is trust built upon?
This is facilitated by such factors:
- The economic potential of the issuer (the one who organized the issue).
- Previous experience of market entities in the use of this money in the process of economic turnover.
- Implementation by the state of such a monetary and economic policy that would exclude inflationary expectations from market entities and lower levels of confidence in the future.
- Formation of a guarantee system for checks and bills.
- Granting to paper signs and coins the status of legal tender, due to which the creditor / seller cannot refuse to accept them.
- Formation of a system of regulation, supervision and insurance in the banking sector.
Providing trust for credit (inferior) money and allows them to give a specific form of value, known as purchasing power.
Relationship Specifics
The purchasing power of money is not a constant indicator. It may change. The fall in the purchasing power of money is called inflation. Growth is deflation. A lot of goods that can be purchased per unit of money depends on their price level. So, the higher they are, the less it will turn out to buy and vice versa.
Thus, an inverse relationship is observed between the value of credit money and the price level. In this case, the change is carried out under the influence of time. This is directly related to the mechanism of the formation of cash, as well as their manifestation as finance and as capital. An important role is played by the percentage. So they call the price of money as capital.
There is another concept that you need to know. This is the opportunity cost of money. What is she like? Just as the value of goods can be estimated through money, so finances are measured through the products and services that they allow you to purchase. Due to this, deflation / inflation and the purchasing power of money are inextricably linked.
About custom metrics
They are used to determine the purchasing power of money. For example, these are wholesale and retail price indices. In the first case, this is the value that enterprises and organizations pay, and in the second - the population in the framework of ordinary trade for their own use. True, the calculation of such indices is not easy. After all, they show changes not for individual goods, but their combination.
That is, indices indicate the general price level. For example, the retail of 1990 relative to 1985 (it is accepted as the base) was 110. That is, there was an increase of 10% (110-100 = 10). If the value of the index were 95%, then this suggests that there would be a fall in prices by 5%.
Cost of living index
Shows prices for consumer goods and services. Calculating it is even more difficult than the previous one. Initially, they make up the so-called consumer basket. This is the name of the set of basic goods and services consumed by the population. It is calculated for each product group.
Then, by means of a survey, it is determined how much per household product is consumed by household expenses. The general index is found as the weighted average for each group of consumer products, that is, taking into account their share.
Value Change Processes
There are two of them - inflation and deflation. It should be noted that the first option in our world is much more common than the second. In this regard, the quantitative theory of money is important.
Its founder is considered to be the sixteenth-century French thinker Jean Boden. It was he who was one of the first to notice that in his time, an increase in the influx of silver and gold into Europe from the New World led to lower prices for these precious metals. And at the same time, the value of everything else increased. But in its modern form, the quantitative theory of money was presented by the economist Irving Fisher. It was he who formulated the equation of exchange.
In his work “The Purchasing Power of Money,” Fisher wrote that the offer of credit papers, multiplied by the speed of their circulation, is equal to the sum of expenses that go to all goods and services sold. When extrapolating this statement to the whole economic life comes one well-known statement. Namely: the money supply determines the price of the goods. That is, to be such that the purchasing power of money increases during inflation simply cannot.
Theory development
Based on the above conclusion, a whole concept was developed, which is now known as monetarism. Its most famous representative is Milton Friedman. He made an even more far-reaching conclusion from the quantitative theory of money. He formulated and popularized that the government should only deal with the regulation of money supply. And on this their intervention in the economy must be limited.
This formulation has a very rational economic background. So, the larger the national product created in the country, the higher the amount of money must remain in circulation. After all, finance is essentially a reflection of products. When the physical quantity of available goods increases, you have to increase the money supply and vice versa.
Let us say a word about inflation
And now let's move on to the most interesting in our conditions. The purchasing power of money in conditions of inflation tends to fall. At the same time, the mass of money that is in circulation turns out to be extremely sensitive to the price level. Therefore, whether we want it or not, but in this case we have to act in a proportionate manner. Failure to comply with this rule may lead to various failures in the functioning of the entire commodity-money system.
An example is the situation in Russia that developed in the first half of 1992. Then price liberalization began. In a few months, both wholesale and retail grew by about five times. The purchasing power of money during the period of inflation fell as much. But the mass of credit papers increased only two to three times. Because of this, an acute shortage of money has formed.
So enterprises did not have enough funds to pay wages, make payments for the supply of materials and for the sale of finished products. Because of this, it was necessary to urgently put into circulation banknotes of high denomination. The amount of cash was sharply increased, cashless payments were facilitated, and net debts of various enterprises were allowed, that is, much was done to normalize circulation.
Features of inflationary processes
When they talk about the mass of finance, they mean without / cash. The influence of inflation on the purchasing power of money is carried out not only through emission, but also by changing the amount of funds in bank accounts. The second option affects the amount of finance that can be spent in the absence of accounts. In this case, additional funds are obtained not thanks to revenue and income, but through loans, grants and subsidies. With the adequate use of this financial toolkit, this allows you to maintain the situation afloat.
If you cross a reasonable line, then the change in the purchasing power of money appears after a certain time. The greater the mark the state took, the sooner and stronger it will make itself felt. Moreover, this depends not only on the inclusion of the printing press, but also on the regulation. From the above equation of exchange, it turns out that the mass of money needed for circulation is inversely proportional to the speed of their movement from one people to another.
About the speed of finance
The higher the speed of circulation, the faster money runs. Accordingly, in the implementation of exchange operations, you can do with a smaller number of them. There are various ways to speed up cash flow and increase circulation speed. For example, reducing the duration of banking operations, which are a transfer of finance.
Improving the efficiency of financial institutions also has a positive effect on this indicator. It is for these reasons that the speed of functioning of modern banks has been increased, which makes it possible to dispense with several days, and essentially even several minutes for work. But keep in mind that speed refers to revenue. It is not necessary to succumb to the false notion that by increasing the speed of spending money you can increase your wealth. First of all, it is necessary to work on income growth, create real values faster, earn more. Only such a path can lead us to prosperity.