Saturday, July 7, 2007

Crash Course in Monetary Economics

I posted this a few weeks ago in response to a question of how inflation works in Zimbabwe. Its generally accurate of how inflation works in general.

1)Money is not a resource. It is simply a form of communication that allows resources to be exchanged. Ergo, the value of money depends on the underlying resources.

2)Government, by and large, does not create resources.

3)But government can ‘steal’ resources from the private sector/ individual citizens because the government and private sector use the same money/currency.

Simply put - if the entire economy just created a resource of “One kilogram of Oranges”. Then, no matter how much currency there was, it would buy only 1kg of oranges. If all the currency there was was $100, then $100 would buy 1 kg of oranges. If all the currency was $1,000, then $1,000 would buy 1 kg of Oranges.

Ergo if the government prints more money, it doesnt increase the resources but only causes inflation ($100 turns into $1,000).

The benefit to the government is it steals a claim to resources from its citizens - before citizens owned (say) $80, and the government owned $20 (when there was $100 in circulation). So it was split 80/20. Now (after inflation) citizens STILL own $80, but the government owns $920 - so NOW the split is 8/92. The government now has claim to over 4 times as much of the resource.
(End of earlier Post)

Additional Points.
From above, it is obvious that changes in the value of money arise from a shift in the resource to currency ratio in an economy.

This of course works both ways. If the money supply does not increase, but the resources go down - more money will be in a bidding war for fewer goods- inflation again. Thinking of the economy as a Big Bloated E-bay wouldnt be far off. Both trends are currently taking place in Zimbabwe right now for a current example.

More in an upcoming post.


Pete said...

From your posts it seems you are supporting similar ideas as Dr Ron Paul who is running for the president of the USA. I bet you support him, if you live in the US.

Anonymous said...

Wasn't there a new post up yesterday about the Charles Murray article? What happened to that?

MensaRefugee said...

Ron Paul or Tancredo if I could vote.

I do that sometimes. Write an article, mull over it, realize I wanted to say a lot more/something different....delete it... feel too lazy to start over...

Sorry :/

MensaRefugee said...