Value of money = 1/(price level)This definition actually comes out of basic microeconomics. In upper level micro classes we move away from simple supply and demand curves, and start talking about “relative prices,” or “real prices.” Thus if the CPI rises 10% per year, then goods going up 8% are seeing their price fall in relative terms and those experiencing 12% price increases see their relative price increase. The relative price is the actual price relative to the price of all other goods in the economy. Now let’s do the same with money. What’s the nominal price of money? The answer is one. What’s the real price? It’s the purchasing power of money, how many goods you can buy with each dollar, which is simply 1/price level. Thus if the price level doubles then the purchasing power of money, i.e. its value, falls in half.
The field of monetary economics exists for one reason, and one reason only—money is the medium of account, the good we use to measure all other values. Most textbooks oversimplify this concept, combining two ideas into “unit of account.” Currency notes are the medium of account, the thing used to measure value. Abstract accounting units like the US dollar, the Canadian dollar, and the euro are examples of a unit of account.
Because money is the good in terms of which all other goods are priced, changes in the value of money are associated with changes in the price level, and in other nominal variables as well. Note that this is not a “theory,” it’s a definition. Theory will come in later, when we ask whether government policymakers can control the price level via “monetary policy.”
Irving Fisher liked to use the metaphor of money as a measuring stick (of value.) First we’ll do an example with the price level, then the same example with measuring sticks:
Year Income Price level Real Income
1978 $20,000 1.0 $20,000
2013 $120,000 3.0 $40,000
A major concerted conservation effort, known as Project Tiger, has been underway since 1973, initially spearheaded by 