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Chapter 11

Chapter 11 - Money Growth & Inflation

4 Pages
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Department
Economics
Course Code
ECN 204
Professor
Eric Kam

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thWednesday March 14 2012 Chapter 11 Money Growth and InflationIntroduction this chapter introduced the quantity theory of money to explain one of the 10 Principles of Economics from chapter 1Prices rise when the government prints too much money most economists believe the quantity theory is a good explanation of the long run behaviour of inflationThe Classical Theory of Inflation inflation is an increase in the overall level of prices hyperinflation is an extraordinarily high rate of inflation quantity theory of money is used to explain the long run determinants of the price levels and the inflation rate Inflation is an economywide phenomenon that concerns the value of the economys medium of exchange when the overall price level rises the value of money fallsThe Vale of Money Pthe price levelExample the CPI or GDP deflator P is the price of a basket of goods measured in money 1P is the value of 1 measured in goods ExampleBasket contains one candy barIf P2 value of 1 iscandy barIf P3 value of 1 is 13 candy bar inflation drives up prices and drives down the value of money Money Supply MS in the real world determined by the Bank of Canada BoC the banking system consumersMoney Demand refers to how much wealth people want to hold in liquid form depends on P price levelAn increase in P reduces the value of money so more money is required to buy gs goods and services therefore the quantity of money demanded is negatively related to the value of money and positively related to P other things equalother things equal include real income interest rates and availability of ATMs some people think that money demand is negatively related to P because an increase in P reduced the demand for goods and services therefore less money is required to buy goods and servicesHowever the relationship between P and money demands holds real income constant other things equal means an increase in P does NOT reduce real income therefore does not reduce demand for goods and servicesReal income determines the quantity of goods and services demand
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