Week 5 Flashcards
(16 cards)
Consumer price index and inflation
The costs of inflation
Neutrality of money definition
The neutrality of money, also called neutral money, says changes in the money supply only affect nominal variables and not real variables. In other words, an increase or decrease in the money supply can change the price level but not the output or structure of the economy. In modern versions of money neutrality theory, changes in the money supply might affect output or unemployment levels in the short run only, but neutrality is still assumed in the long run after money circulates throughout the economy.
The Fisher effect
an economic theory proposed by economist Irving Fisher that describes the relationship between inflation and both real and nominal interest rates. The Fisher effect states that the real interest rate equals to the nominal interest rate minus the expected inflation rate. Therefore, real interest rates fall as inflation increases, unless nominal rates increase at the same rate as inflation.
Expected inflation (costs of inflation)
Regressive tax definition
A regressive tax affects people with low incomes more severely than people with high incomes. While it may be fair in some instances to tax everyone at the same rate, it is seen as unjust in other cases. As such, most income tax systems employ a progressive schedule that taxes high earners at a higher percentage rate than low earners, while other types of taxes are uniformly applied. Examples of regressive taxes include sales taxes, user fees and, arguably, property taxes.
Dollarization definition
usually occurs in developing countries with a weak central government or an unstable economic environment. For example, the citizens of a country within an economy that is undergoing rampant inflation may choose to use a historically stable currency, like the U.S. dollar, to conduct day-to-day transactions, since inflation will cause their domestic currency to have reduced buying power. Dollarization does not always involve the U.S. dollar as the adopted foreign currency. The euro has also been adopted by non-EU members as its domestic currency.
Dollarization can be full or partial. Full dollarization takes place after a major economic crisis, as in the cases of Ecuador, El Salvador and Zimbabwe. In the case of partial dollarization, where a certain portion of the country’s assets can be held in a foreign currency. It can also be done over time, or a gradual currency conversion to a full currency conversion.
Unexpected inflation (costs of inflation)
Types of money (money supply)
The multiplier effect
The multiplier effect is the expansion of a country’s money supply that results from banks being able to lend. The size of the multiplier effect depends on the percentage of deposits that banks are required to hold as reserves. In other words, it is the money used to create more money and is calculated by dividing total bank deposits by the reserve requirement.
Illiquid vs. insolvent
Bank runs
The quantity theory of money
Seniorage definition
Seigniorage is the difference between the value of money and the cost to produce it — in other words, the economic cost of producing a currency within a given economy or country. If the seigniorage is positive, then the government will make an economic profit; a negative seigniorage will result in an economic loss.
Hyperinflation definition
Hyperinflation deeper dive
