Inflation and Functions of Money
The impact of inflation on the functions of money
Money refers to any commodity which functions as medium of exchange or the settlement of a debt. In a modern economy bank notes and coins clearly form part of the money supply as they are acceptable in the settlement of all transactions. Moreover some transactions are settled by cheques drawn on bank deposits in current accounts (also known as sight or demand deposits). Thus current account deposits also form part of money supply. Deposits accounts with banks and other financial institutions are also included in the supply of money.
Money can also be conceived in terms of narrow money and broad money. Narrow money refers to money balances easily available to finance day to day transactions. In other words it considers the medium of exchange function of money. Broad money refers to money held both for transactions purposes and as a form of saving. It also considers assets which can be easily converted into cash. Therefore the broad money version of money considers both the medium of exchange and store of value function of money.
The effects of inflation on the function of money depend on the rate of increase inflation. For example a mild inflation will have no effects on the function of money. However, as the rate of inflation increases the ability of money to fulfil its functions is negatively affected. The effects of hyper inflation on the function of money are described below
Medium of exchange
By medium of exchange it is meant money is used to carry on daily transactions. Money eliminates the need for double coincidence of wants. However, hyper-inflation causes the value of money to fall significantly and nobody will want to hold money. Thus, since money will not be readily acceptable money stop functioning as medium exchange.
Store of value
Money allows an individual to postpone purchases. By storing money an individual is said to be storing wealth because with money someone is able to
Money refers to any commodity which functions as medium of exchange or the settlement of a debt. In a modern economy bank notes and coins clearly form part of the money supply as they are acceptable in the settlement of all transactions. Moreover some transactions are settled by cheques drawn on bank deposits in current accounts (also known as sight or demand deposits). Thus current account deposits also form part of money supply. Deposits accounts with banks and other financial institutions are also included in the supply of money.
Money can also be conceived in terms of narrow money and broad money. Narrow money refers to money balances easily available to finance day to day transactions. In other words it considers the medium of exchange function of money. Broad money refers to money held both for transactions purposes and as a form of saving. It also considers assets which can be easily converted into cash. Therefore the broad money version of money considers both the medium of exchange and store of value function of money.
The effects of inflation on the function of money depend on the rate of increase inflation. For example a mild inflation will have no effects on the function of money. However, as the rate of inflation increases the ability of money to fulfil its functions is negatively affected. The effects of hyper inflation on the function of money are described below
Medium of exchange
By medium of exchange it is meant money is used to carry on daily transactions. Money eliminates the need for double coincidence of wants. However, hyper-inflation causes the value of money to fall significantly and nobody will want to hold money. Thus, since money will not be readily acceptable money stop functioning as medium exchange.
Store of value
Money allows an individual to postpone purchases. By storing money an individual is said to be storing wealth because with money someone is able to