Inflation reduces the purchasing power of money over time. It is measured using indexes like the Consumer Price Index that track price changes in the economy. The quantity theory of money states that increases in the money supply by the central bank will lead to higher inflation. Unanticipated inflation can redistribute wealth in unintended ways and hurt those on fixed incomes not adjusted for inflation. High or hyperinflation above 50% per month severely distorts the economy and can cause money to lose its functions.
In this PowerPoint, You will calculate annual percentage rate (APR) and Effective Interest Rate (EAR) in MS Excel. You find the example and solution as well.
Meaning of Term Structure of Interest Rates
Significance of Term Structure of Interest Rates
What is Yield Curve?
A spot rate and a forward Rate
Theories of Term Structure of Interest Rates
measuring the cost of living
Consumer Price Index
How the CPI Is Calculated
Problems with the CPI
Contrasting the CPI and GDP Deflator
Correcting Variables for Inflation:
In this PowerPoint, You will calculate annual percentage rate (APR) and Effective Interest Rate (EAR) in MS Excel. You find the example and solution as well.
Meaning of Term Structure of Interest Rates
Significance of Term Structure of Interest Rates
What is Yield Curve?
A spot rate and a forward Rate
Theories of Term Structure of Interest Rates
measuring the cost of living
Consumer Price Index
How the CPI Is Calculated
Problems with the CPI
Contrasting the CPI and GDP Deflator
Correcting Variables for Inflation:
This presentation will discuss the following topics:
Objectives
Introduction
What is a Financial Instrument?
Understanding Financial Instrument
Types of Financial Instrument
Financial Markets
Role of Financial Markets
This presentation will discuss the following topics:
Objectives
Introduction
What is a Financial Instrument?
Understanding Financial Instrument
Types of Financial Instrument
Financial Markets
Role of Financial Markets
BBA 2401, Principles of Macroeconomics 1 Learning Obj.docxarnit1
BBA 2401, Principles of Macroeconomics 1
Learning Objectives
Upon completion of this unit, students should be able to:
1. Describe the relationship between the demand and supply of money.
2. Explain how changes in the money supply affect aggregate demand in
the short run.
3. Explain how changes in the money supply affect aggregate demand in
the long run.
4. Evaluate targets for monetary policy.
5. Compare an active policy and a passive policy.
6. Explain the Phillips curve.
Written Lecture
Monetary theory is concerned with the effects of the quantity of money on the
economy's price level and the level of real output. There is considerable debate
among economists concerning what these effects are. One difficulty in
determining the effects is that monetary policy changes and fiscal policy
changes often occur at the same time, so it is difficult to sort out the effects of
one from those of the other. This chapter describes two views of how money
affects the economy: a short-run view and a long-run view.
The Demand and Supply of Money
A person's demand for money is not the same as the person's desire for a
greater income. When economists speak of a demand for money, they are
referring to the desire to hold a particular amount of money, either in checking
accounts or as cash. That is, the demand for money is a demand to hold a
stock of money at a particular time. Since money is used to facilitate exchange
of goods and services and people engage in exchange on a regular basis,
people hold money balances. The demand for money is greater the greater the
number of transactions (as measured by real GDP) and the higher the average
price at which each good is sold, that is, the greater nominal GDP.
Money also competes with other financial assets as a store of wealth.
Compared with other financial assets, money has one major advantage and
one major disadvantage. Money's advantage is its liquidity—it can be directly
exchanged for goods and services. Its disadvantage is that it earns either no
interest or substantially less interest than other financial assets. The
opportunity cost of holding money is the additional interest that could have
been earned by using the money to buy alternative interest-bearing financial
assets. Consequently, the cost of holding money increases with the real
interest rate, and we expect the demand for money to vary inversely with the
real interest rate, other things being constant. That is, the demand curve for
money slopes downward when real interest rates are on the vertical axis.
Reading
Assignments
Chapter 16:
Monetary Theory and
Policy
Chapter 17:
Macro Policy Debate:
Active or Passive?
Supplemental
Reading
Click here to access a
PDF of the Chapter 16
Presentation.
Click here to access a
PDF of the Chapter 17
Presentation.
Learning Activities
(Non-Graded)
See information below.
Key Terms
1. Decision-making lag
2. De ...
FIRST DRAFT 1Impact of Interest Rates on InflationJameShainaBoling829
FIRST DRAFT 1
Impact of Interest Rates on Inflation
James C. Goggans
Embry Riddle Aeronautical University
Professor Audra Sherwood
Economics 211
21 November 2021
FIRST DRAFT 2
Introduction
Interest rates play a significant role in shaping a country's economy. The Federal Reserve
System in the US determines the interest rates, which determine the prices of goods and
services in the market (Ferreira & Shousha, 2021). The two concepts are linked, and
academicians have established both direct and inverse relationships between the two
concepts. Some academicians argue that since both inflation and interest rates are driven by
money, they have a direct relationship such that an increase in interest rates increases the rate
of inflation and vice versa. However, the money quantity theory establishes an inverse
relationship between interest rates and inflation; High-interest rates reduce money circulation,
which leads to a reduction in prices. On the other hand, low-interest rates increase money
circulation, which increases the price of goods and services.
Literature Review
Definition of Inflation
Academicians define inflation differently. However, the most harmonizing definition of
inflation is the decline in a currency's value or purchasing power. The decline takes place
over time and affects the general price of goods and services in the market. When there is
inflation, a currency unit buys less than what it used to but previously. For example, if the
price of bread increases from $ 1 to $ 1.50, it means the value of the currency has reduced,
and more money has to be used to buy bread. When there is inflation, the money supply
increases in an economy faster than the production of goods and services required in the
market. This leads to an imbalance between supply and demand in a country's economy.
Definition of Interest rate
Kiley & Roberts (2017) define interest rate as the amount a lender charges a borrower,
expressed as a percentage of the principal. It is typically represented as an annual percentage,
Audra Sherwood
23860000000004354
All paragraphs need to be indented 1/ 2 inch.
FIRST DRAFT 3
and the borrower pays back the principal and the interest. According to the International
Monetary fund, interest rates serves three functions;
It serves as a return on the financial asset so that it can promote deferred consumption, a
saving that will facilitate future activities.
It is also considered a cost of capital that will determine the amount of money that can be
loaned to members of the public.
The interest rates within a country and the return rate of foreign financial assets are normally
evaded against inflation.
Based on these functions, it is clear that interest rates impact the economy dramatically. It
also affects other variables that will influence investment activities that shape economic
growth and a country's development.
What is the relationship between in ...
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2. 2
Stock of assetsStock of assets
Used for transactionsUsed for transactions
A type of wealthA type of wealth
Money
As a medium of exchange, money is used to buy goods and
services. The ease at which an asset can be converted into a
medium of exchange and used to buy other things is sometimes
called an asset’s liquidity. Money is the economy’s most liquid
asset.
3. 3
Inflation is an increase in the average level of prices, and a price
is the rate at which money is exchanged for a good or service.
Here is a great illustration of the power of inflation:
In 1970, the New York Times cost 15 cents, the median price of
a single-family home was $23,400, and the average wage in
manufacturing was $3.36 per hour. In 2008, the Times cost
$1.50, the price of a home was $183,300, and the average wage
was $19.85 per hour.
4. 4
General rise in the price level
Inflation reduces the “purchasing power” of money
Consumer Price Index (CPI)
Focus on good and services purchased by household
Producer Price Index (PPI)
Focus on production inputs purchased by business
GDP Price Index
Measures price changes in the economy as a whole
MEASURES OF INFLATION
5. 5
It serves as a store of value, unit of account, and a medium of
exchange. The ease with which money is converted into other things
such as goods and services--is sometimes called money’s liquidity.
6. 6
Fiat money is money by declaration.
It has no intrinsic value.
Commodity money is money that
has intrinsic value.
When people use gold as money, the
economy is said to be on a gold standard.
7. 7
The quantity theory of money states that the central bank, which
controls the money supply, has the ultimate control over the inflation
rate. If the central bank keeps the money supply stable,the price level
will be stable. If the central bank increases the money supply rapidly,
the price level will rise rapidly.
8. 8
The revenue raised through the printing of money is called
seigniorage. When the government prints money to finance
expenditure, it increases the money supply. The increase in
the money supply, in turn, causes inflation. Printing money to
raise revenue is like imposing an inflation tax.
The revenue raised through the printing of money is called
seigniorage. When the government prints money to finance
expenditure, it increases the money supply. The increase in
the money supply, in turn, causes inflation. Printing money to
raise revenue is like imposing an inflation tax.
10. 10
Economists call the interest rate that the bank pays the
Nominal interest rate and the increase in your purchasing power the
real interest rate.
This shows the relationship between the nominal interest rate
and the rate of inflation, where r is real interest rate, i is the
nominal interest rate and π is the rate of inflation, and remember
that π is simply the percentage change of the price level P.
Economists call the interest rate that the bank pays the
Nominal interest rate and the increase in your purchasing power the
real interest rate.
This shows the relationship between the nominal interest rate
and the rate of inflation, where r is real interest rate, i is the
nominal interest rate and π is the rate of inflation, and remember
that π is simply the percentage change of the price level P.
rr == ii -- π
11. 11
The Fisher Equation illuminates the distinction between
the real and nominal rate of interest.
Fisher Equation:Fisher Equation: ii == rr ++ ππ
Actual (Market)Actual (Market)
nominal rate ofnominal rate of
interestinterest
Real rateReal rate
of interestof interest
InflationInflation
The one-to-one relationship
between the inflation rate and
the nominal interest rate is
the Fisher effect.
It shows that the nominal interest can change for two reasons: because
the real interest rate changes or because the inflation rate changes.
12. 12
The quantity theory (MV = PY) is based on a simple money demand
function: it assumes that the demand for real money balances is
proportional to income. But, we need another determinant of the
quantity of money demanded—the nominal interest rate.
The nominal interest rate is the opportunity cost of holding money:
it is what you give up by holding money instead of bonds. So, the new
general money demand function can be written as:
(M/P)d
= L(i, Y)
This equation states that the demand for the liquidity of real money
balances is a function of income (Y) and the nominal interest rate (i).
The higher the level of income Y, the greater the demand for real
money balances.
13. 13
As the quantity theory of money explains, money supply and money
demand together determine the equilibrium price level. Changes in
the price level are, by definition, the rate of inflation. Inflation, in
turn, affects the nominal interest rate through the Fisher effect.
But now, because the nominal interest rate is the cost of holding
money, the nominal interest rate feeds back into the demand for money.
MoneySupply&MoneyDemand
Inflation&theFisherEffect
14. 14
The inconvenience of reducing money
holding is metaphorically called the
shoe-leather cost of inflation, because
walking to the bank more often induces
one’s shoes to wear out more quickly.
When changes in inflation require printing
and distributing new pricing information,
then, these costs are called menu costs.
Another cost is related to tax laws. Often
tax laws do not take into consideration
inflationary effects on income.
15. 15
Unanticipated inflation is unfavorable because it arbitrarily
redistributes wealth among individuals.
For example, it hurts individuals on fixed pensions. Often these
contracts were not created in real terms by being indexed to a
particular measure of the price level.
There is a benefit of inflation—many economists say that some
inflation may make labor markets work better. They say it
“greases the wheels” of labor markets.
16. 16
Hyperinflation is defined as inflation that exceeds
50 percent per month, which is just over 1percent a
day.
Costs such as shoe-leather and menu costs are much
worse with hyperinflation—and tax systems are
grossly distorted. Eventually, when costs become
too great with hyperinflation, the money loses its
role as store of value, unit of account and medium of
exchange. Bartering or using commodity money
becomes prevalent.