Economic Value of Money

The value of money is what money can do. The value of one dollar is the amount of labor that it can command. To measure the value of money, an indicator is the amount of money that is needed for buying average household necessary goods and services for a year. An example of necessary good is food, and a counter example of it is luxury bags or diamonds.

In today’s world, the price of money is measured by the consumer price index (CPI). For example, China is a country with CPI value being 110, while the United States is a country with CPI value being 220. Goods and services in China is cheaper, compared to the United State. The same one dollar bill can buy twice goods and services in China, compared to buying them in the United States. This CPI value for China is measured in dollars. To convert from CPI in dollar to CPI in Chinese currency (yuan), CPI in dollar is multiplied by conversion rate from dollars to yuan. The conversion rate is how much yuan exchanged for one dollar. For example, 7.0 yuan is exchanged for 1 dollars, then the CPI in yuan is $110*7=770$.

CPI taken by itself is almost meaningless. It is meaningful when CPI is compared against another CPI. When CPI of China is compared to CPI of the United States, we know one dollar can worth more in China, and less in the United States. When CPI of last year is compared to CPI of this year, we know the changes on how much one dollar can buy goods and services. If last year CPI is 1, and this year is 2, then the same one dollar can buy half as many goods and services as last year did. The changes of CPI over years is called annual inflation.