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Trade surplus and Money supply, Inflation

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FirstSecretary
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Post: #1
Trade surplus and Money supply, Inflation

Hello

I've red that trade surplus can be achived by devaluating the currency among with other imputs. However as it seems logical that another nation would buy more from mine if their currency is stronger than mine its not so logical to me why would increasing money supply do that job. Before you think that my deduction must be completely retarded please consider that raising money supply inflates the prices proportionaly(i guess). So if i raise money supply the exchange rate obviously drops so buyer from another country can buy more of my currency. But at the same time this grater ammount of money can buy less lets say TVs, beacause of inflation. So at the end it seems like the buyer from abroad can accually buy the same ammount of goods for given ammount of his currency regardless of exchange rate ??????? Kopfkratz

This post was last modified: 25.01.2014 20:13 by FirstSecretary.

25.01.2014 20:12
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Helsworth
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Post: #2
RE: Trade surplus and Money supply, Inflation

FirstSecretary Wrote:
Hello

I've red that trade surplus can be achived by devaluating the currency among with other imputs. However as it seems logical that another nation would buy more from mine if their currency is stronger than mine its not so logical to me why would increasing money supply do that job. Before you think that my deduction must be completely retarded please consider that raising money supply inflates the prices proportionaly(i guess). So if i raise money supply the exchange rate obviously drops so buyer from another country can buy more of my currency. But at the same time this grater ammount of money can buy less lets say TVs, beacause of inflation. So at the end it seems like the buyer from abroad can accually buy the same ammount of goods for given ammount of his currency regardless of exchange rate ??????? Kopfkratz

First of all, please understand that the game's mechanics is not a perfect real-world economic simulation. Quite far from it in some aspects.
Now, in AR, keeping and expanding your Money Supply above your GDP can lead to currency depreciation. Depends really on what template state you're playing. The smaller countries suffer more drastic effects than the USA template, for instance.
Now, in AR as in the real world, an increase or growth in the Money Supply DOES NOT cause inflation. Seasonal price fluctuations are NOT inflation. In order to have an inflationary episode, the price index needs to keep rising every month. Ok? So not all upward price changes are inflation.
Addressing the issue of increasing competitiveness. Every country which seeks to increase its trade surplus, is seeking to become a bigger net importer of aggregate demand. Therefore, your country's exported goods will be cheaper to buy if you're currency's cheaper than that of your competitors. It's all about obtaining market share for your product.

As a side observation for the real world, so long as there is unused resources, free labor, and unused production capacity - an increase of the money supply won't cause inflation. Simply because firms are supply adjusters. Firms become price adjusters when they can no longer increase output to satisfy the increased nr of orders for their goods or services. Capitalism is all about securing yourself a list of orders for your goods or services at a price which will allow you to move them (sell) at a profit. So if you're currently moving your product at a price which gives you a satisfactory level of profit and you're only utilizing, say, 60% of your production capacity. If you see more orders in the next months, you won't increase the price of your good or service, because your optimal price is the one which obtains sales. So you increase output to accommodate for the new increase in aggregate demand. Of course, once you're already close to or at full output, and you still see increased numbers of orders... since you won't be able to increase output anymore, you're gonna increase the price for your wears.

If you have more questions or require more clarification, please feel free to ask. ^^ Have fun playing the game.

PS: You've chosen a very difficult template state *the hardest in the game* as your first playthrough. Getting your fiscal deficit in check is very important. You'll have to move in the privatization direction via task options and reforms; and you will have to lower subsidies in the future. Don't do it too aggressively though. And be prepared to face high unemployment while you begin to shrink the government deficit.


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This post was last modified: 25.01.2014 20:57 by Helsworth.

25.01.2014 20:29
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FirstSecretary
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Post: #3
RE: Trade surplus and Money supply, Inflation

So, abstracting from other factors, from what i understood the difference beetwen GDP and money supply is tied to the expansion or depression of economy. So if my money supply is greater than GDP it will drive the economy ( among other factors ) to expand. As the economy expands to its full capacity ( determined by education level, infrastructure, population, resources etc.) further increase in money supply generates infation.

The exchange rate would be also determined by the difference between money supply and GDP since the GDP and exchange rate is expressed in relation to Euro. So my goal should be to rise money supply to a point where my echange rate is lower than my competitors and within the margin of economy capacity so that my exported goods prices are competitive and the demand for them grows ??

25.01.2014 21:15
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Sheep
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Post: #4
RE: Trade surplus and Money supply, Inflation

FirstSecretary Wrote:
So, abstracting from other factors, from what i understood the difference beetwen GDP and money supply is tied to the expansion or depression of economy. So if my money supply is greater than GDP it will drive the economy ( among other factors ) to expand. As the economy expands to its full capacity ( determined by education level, infrastructure, population, resources etc.) further increase in money supply generates infation.


Yes, that's the behavior in a nutshell.

Quote:
The exchange rate would be also determined by the difference between money supply and GDP since the GDP and exchange rate is expressed in relation to Euro. So my goal should be to rise money supply to a point where my echange rate is lower than my competitors and within the margin of economy capacity so that my exported goods prices are competitive and the demand for them grows ??


Yes, if you want to build your economy based on exports.


27.01.2014 18:22
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Helsworth
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Post: #5
RE: Trade surplus and Money supply, Inflation

And don't forget to slash the nominal interest by as much as you can. It affects interest payments - each time you run a fiscal deficit, you contract new debt at the respective interest rate.


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27.01.2014 18:43
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FirstSecretary
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Post: #6
RE: Trade surplus and Money supply, Inflation

Thanks for all the reply. You were very helpfull.

27.01.2014 21:29
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Helsworth
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Post: #7
RE: Trade surplus and Money supply, Inflation

Always glad to be of help. Smile


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27.01.2014 21:45
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Helsworth
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Post: #8
RE: Trade surplus and Money supply, Inflation

Calimera Wrote:
I am sorry, but it is a myth that pumping money into the economy doesn't create inflation. There exists a clear and undenianle corrolation between money supply and inflation.

Since you've formulated this argument in this way, it's clear that you don't know what inflation is.

So what is inflation?
Note, for the sake of keeping it simple, I am only considering inflationary pressures that arise from nominal demand (spending) growth outstripping the real capacity of the economy to react to it with output responses. In other words, I am excluding inflation that may arise from supply shocks – such as a rise in an imported raw material (for example, oil). That is another issue altogether.
The reason I am excluding supply-driven inflationary impulses is because the mainstream attack on the current use fiscal policy (and monetary policy) is really about demand pressures. We are continually reading crude statements such as there is “too much money” in the system.
However, the solution to both sources of inflation is not that dissimilar although additional measures might be brought to bear to handle the case of a price hike in an imported raw material.

First we should make sure what we are talking about. Many conservative commentators think that when workers get a pay rise it is inflation. It is not. Those on the left think that when the corporate sector increase the price of a good or service it is inflation. It is not.

It is also not inflation when the exchange rate falls pushing the price of imports up a step. So a depreciation in the currency does not constitute inflation. It might stimulate inflation but is not in itself inflation.

It is also not inflation when the government increases a particular tax (say the VAT or GST) by x per cent to some new level.

So while a price rise is a necessary condition for inflation it is not a sufficient condition. Observing a price rise alone will not be sufficient to categorise the phenomena that you are observing as being an inflationary episode.

Inflation is the continuous rise in the price level. That is, the price level has to be rising each period that you observe it. So if the price level or a wage level rises by 10 per cent every month, then you have an inflationary episode. In this case, the inflation rate would be considered stable – a constant rise per period.

If the price level was rising by 10 per cent in month one, then 11 per cent in month two, then 12 per cent in month three and so on, then you have accelerating inflation. Alternatively, if the price level was rising by 10 per cent in month one, 9 per cent in month two etc then you have falling or decelerating inflation.

If the price level starts to continuously fall then we call that a deflationary episode.

Hyper-inflation is just inflation big-time!

So a price rise can become inflation but is not necessarily inflation. Many commentators and economists get this basic understanding wrong – often and continually.

Second, it also follows that cyclical adjustments in price levels by firms from what they are currently offering at depressed levels of activity to what the price levels that are defined at their normal operating capacity levels are not inflation. When the economy is in poor shape, firms cut prices in an attempt to increase capacity utilisation by temporarily suppressing their profit margins and hence maintain market share. As demand conditions become more favourable the firms start increasing the prices they offer until they get back to those levels that offer them the desired rate of return at normal capacity utilisation.

Firms are basically quantity adjusters if they have spare capacity. They will seek to maintain market share when nominal demand grows by increasing output where possible. Should nominal demand growth (supported in part by net public spending) outstrip this capacity then firms will become price adjusters, because they can no longer expand real output.

Bottlenecks in some sub-markets may occur before other sectors are at full capacity and so price pressures might emerge just before overall full capacity is reached. So, in reality, the aggregate supply response (which tells you how much real output will be forthcoming at each price level) may not be strictly reverse-L shaped (where price is on the vertical axis and output on the horizontal axis). The extent to which the reverse-L becomes a curve at at a point approaching full capacity is an empirical matter.
Inflation occurs when there is chronic excess demand relative to the real capacity of the economy to produce.

Note: the mechanisms through which the supply shocks manifest are different and this deserves a separate analysis; which I won't go into here.

And since images speak more than words. Sometimes the situation looks this:


Other times it looks like this:


CONTEXT MATTERS!!!


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23.02.2014 14:00
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Rising Phoenix
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Post: #9
RE: Trade surplus and Money supply, Inflation

My personal take on inflation is that it ocurrs when: A) Cartels decide to increase prices (i.e.: All cellphone companies decide to raise tariffs together, thus making the service more expensive without any increase in quality or investment). B) When newly money printed is used to fill the pocket's of politicians. This happens daily in my country -- newly printed currency is not used to build infraestructure, rebuild dilapidated structures, or anything of the sort. Thus, the G.D.P. remains the same and the new currency only serves to strengthen the position of cronies and their masters in society without any benefit to said society.

There is a marked difference between printing the equivalent ten million dollars and using it to build a mag-lev train and using it to give more money to your rich friends. In one case the economy is growing thanks to new investments, in the second you are throwing more money at people who do not need it and keeping the G.D.P. at exactly the same level.

And there is no need to explain that cartel increases happen from time to time - when prices rise for the sake of more profit, it is also inflationary since it increases the cost of living.

05.03.2014 17:35
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Post: #10
RE: Trade surplus and Money supply, Inflation

Printing money itself does not lead to inflation. Idle money doesn't do anything. It's about money velocity (money that goes to buy goods and services). Depending on context, money velocity is not enough - thus, the economy remains stagnant. Firms operate at depressed levels of output. Unemployment remains vertical. In this case, new net money is required to enter the private sector.
Worrying about overheating the economy is valid only when the economy is already running at full employment.

And to just make another observation on Calimera's post - correlations are not causality. By now, this should be more than obvious. But people like to think about inflation as if it were some esoteric "buggie-man" that is always and everywhere a monetary phenomenon. It's not. And only ignorants claim otherwise.
http://www.macrotrends.net/1373/oil-pric...ical-chart


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05.03.2014 19:14
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