Concepts By Stella

MS and Inflation? Theoretically, with inflation currency depreciates Growth rate of Ms -> inflation rate Inflation: when Ms rises faster than the stock of goods and services available

Deflation? Overall decrease in the level of prices

Exchange Rate? What is it? How is it set? Literally, rate at which one can convert one currency into another currency Allows one to compare the relative prices of goods and services in different countries How is it set? Law of Supply and Demand (S-D) Subjective valuation: over/undervalued

Exchange Rate? – cont’d Appreciated: more of another currency / ea. domestic currency Ex: Spot X-rate Rate on a particular day -> reported daily Amount of foreign currency one domestic currency (ex: $1 U.S.) will buy Value of a domestic currency (ex: $1) for one unit of foreign currency Ms-Md of one currency relative to those of other currencies

Exchange Rate? – cont’d Pegging Free-floating Currency boards Usually to the U.S. dollar Low inflation ex: Chinese Yuan Free-floating Market-based Currency boards Backing up the amount of money printed with foreign reserves

Inflation? Increase in the overall level of prices Basically, caused by excessive supply of money in the market Quantity theory of money: a theory asserting that the quantity of money available determines the price level and that the growth rate in the quantity of money available determined the inflation rate

Inflation? – cont’d Excessive MS -> Value of money falls Price level as a measure of the value of money : lower value of money, higher price for a certain good Hence, excessive MS -> decreased value of money -> increased price level

Inflation – cont’d Supposedly, with the higher price level, people would want more money to conduct transactions (MD increases) MD rises (and so does the price) until it reaches market equilibrium.

Ref. International Business: competing in the global marketplace, Hill Macroeconomics, Bernanke et al. Principles of Economics, Menkiw