eco 202 ch 31 money growth and inflation
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Chapter 31 !
Money Growth and Inflation
12.95 August 2012
15.25 April 2014
17.8% increase
CPI GDP Deflator
Measuring Inflation
Year General Index
Food and non -
alcoholic beverages
TobaccoClothing and
Footwear
Housing , Water,
Electricity, Gas, and
other fuels
Furnishings, household
equipment & Routine
household maintenance
Health TransportCommuni-
cationRecreation and Culture Education
Restaurants and Hotels
Miscellaneous goods and
services
2007 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0
2008 106.1 113.7 105.1 101.0 108.5 103.2 103.2 97.0 98.1 97.7 110.3 103.2 101.6
2009 110.5 116.4 107.3 101.6 120.1 105.6 103.2 98.2 98.2 99.2 111.8 110.0 104.9
2010 114.7 120.8 119.2 101.1 129.2 107.0 103.3 99.7 97.7 97.2 113.2 113.8 110.1
2011 119.0 127.1 126.7 99.7 143.9 115.5 103.4 103.1 92.0 104.7 108.7 117.0 113.9
2012 122.4 132.9 141.3 103.3 148.7 117.5 105.6 108.3 92.1 104.5 110.2 121.7 117.8
% Chg 2.9% 4.6% 11.5% 3.6% 3.3% 1.7% 2.1% 5.0% 0.1% -0.2% 1.4% 4.0% 3.4%
InflationCOUNTRY RATESaudi Arabia 2.8%United States 1.1%Venezuela 57.3%Japan 1.5%Egypt 9.8%Russia 6.2%Spain -0.2%UAE 1.8%Greece -1.1%Iran 28.8%Syria 49.5%
Source: Trading Economics April 2014
Inflation
Source: Trading Economics April 2014
-15%
0%
15%
30%
45%
60%
Saudi Arabia United States Venezuela Japan Egypt Russia Spain UAE Greece Iran Syria
What determines the value of money?
supply and demand
David Hume 1711-1776
!
!
dichotomy “split in two”
!
nominal vs. real
measured in monetary units
Nominal variable
measured in physical units
Real variable
different effects
Short Run vs.
Long Run
Milton Friedman 1912-2006
!
!
Quantity Theory of
Money
Quantity Theory of Money
M x V = P x Y M = Money V = Velocity P = Prices
Y = Output
Quantity Theory of Money
MV = PY Assume V is constant
then an increase in M will only increase P or Y
Quantity Theory of Money
MV = PY Increasing M will either
increase prices or output or both
Quantity Theory of Money
1. V is constant 2. Change M will change P x Y 3. Y is a function of capital 4. If M is increased then P is increased 5. Therefore increasing M will increase inflation
Government Spending
tax borrow
Inflation Tax
When government prints too much money is
becomes less valuable. Anyone who has money
has lost value
Real vs. Nominal
Real Interest Rate = Nominal Rate + Inflation
Rate !
R = N + I
Real vs. Nominal
Real = Nominal - Inflation !
Nominal = Real + Inflation !
Inflation = Nominal - Real !
Indexing
Adjusting nominal rate for inflation
Year NOMINAL OIL PRICE
REAL OIL PRICE
Base Year 20051970 1.30 5.35 411.5%1971 1.65 6.46 391.5%1972 1.90 7.13 375.3%1973 2.70 9.61 355.9%1974 9.76 31.83 326.1%1975 10.72 31.94 297.9%1976 11.51 32.43 281.8%1977 12.40 32.85 264.9%1978 12.70 31.44 247.6%1979 17.26 39.44 228.5%1980 28.67 59.99 209.2%1981 34.23 65.49 191.3%1982 31.74 57.23 180.3%1983 28.77 49.90 173.4%1984 28.06 46.91 167.2%1985 27.54 44.69 162.3%1986 13.73 21.80 158.8%1987 17.23 26.58 154.3%1988 13.40 19.99 149.2%1989 16.21 23.30 143.7%1990 20.82 28.81 138.4%1991 17.43 23.29 133.6%1992 17.94 23.42 130.5%1993 15.68 20.03 127.7%1994 15.39 19.25 125.1%1995 16.73 20.50 122.5%1996 19.91 23.94 120.2%1997 18.71 22.11 118.2%1998 12.20 14.26 116.9%1999 17.45 20.09 115.1%2000 26.81 30.22 112.7%2001 23.06 25.42 110.2%2002 24.32 26.38 108.5%2003 27.69 29.42 106.2%2004 34.53 35.68 103.3%2005 50.15 50.15 100.0%2006 61.05 59.14 96.9%2007 68.75 64.72 94.1%2008 95.16 87.64 92.1%2009 61.38 56.04 91.3%2010 77.75 70.05 90.1%2011 107.80 95.10 88.2%2012 110.27 95.72 86.8%
0
25
50
75
100
1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
Real Oil Price Base year 2005
Three Tools of Central Banks
Open-Market Operations
Discount Rate
Reserve Ratio
What did SAMA do to fight the financial crisis in
2008?Dropped the ORR from 5.5%
to 2.0%
Dropped the Reserve Ratio from 13 percent to 7 percent
SAMA Official Repo Rate
Dropped from 5.5% October 2008
to 2.0% by January 2009 3 month period of
global financial crisis Rate increased
as economy heated up
Inflation Deflation
Winners Borrowers Lenders
Losers Lenders Borrowers