Tuesday, October 6, 2009

The Price of Money

In todays world there is a massive misconception about money. Most people, I would argue, intuitively believe that money is the financial measuring stick. Anytime you want to measure and good or service you see how much money it is worth. Say you have an apple and it cost one dollar, people would say it is worth one dollar. Supply and demand works on that dollar the same as it works on that apple. People would be equally justified in saying that a dollar is worth one dollar. If the price of goods at the grocery store go up people automatically assume that what I just said is true, good are more expensive. How do they know in fact good are more costly and not that dollars are cheaper? More likely of course some mixture of both is the case. If you believe that people comprehend an increase in price and goods becoming more costly as I do you may see the problem. When it takes more dollars to buy the same goods as one bought yesterday they like to blame greedy capitalistic pigs. However if they perceived the dollars to decrease in value perhaps they would blame irresponsible monetary policy of the central bank. This could be very political very fast, but to say the last I would encourage the reader to look at the perspective I offered of decreasing dollar value rather than increasing cost of goods.

We can draw a supply and demand curve for dollars as we can for apples. When we look at Q* we will see X dollars and when we look at P* try to see apple or ounces of silver or gallons of unleaded fuel or your preferred good and perhaps you will see prices in a new light.

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