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Friday, 5 August 2011

Fixed in real terms

Fixed in real terms

Updated on 9-8-11

General price level non-monetary indices, e.g. the CPI and Daily Index, are fixed in real terms but have changing nominal values like monetized daily indexed units of account. There is also another unit of account, the UF, which is fixed in real terms. Shiller, p2

What does fixed in real terms mean?

It means the UF´s and the DI´s nominal values are not fixed over time but change daily during inflation, deflation and hyperinflation because money, unstable in real value, is being used as the fixed nominal unit of account in the economy.

So, what then is fixed?

None of the abovementioned three is a permanently fixed index value. The CPI changes monthly. The UF and the DI change daily. The UF and DI are not fixed in nominal value, but, any price or value quoted or measured or accounted in terms of them remains fixed in real terms over time, meaning the price or accounted item´s nominal value changes daily during inflation, deflation and hyperinflation because money unstable in real value is being used the fixed nominal unit of account in the economy.

We say its real value is fixed meaning its nominal value changes daily – because we state all values in money - unstable in real value - which is used as a fixed nominal unit of account for accounting purposes; i.e. its real value changes daily during inflation, deflation and hyperinflation.

What is fixed in real terms is the initial real value of the typical basket of consumer goods on which the CPI is based. The UF and DI are based on their respective CPIs. Their real values are thus also fixed over time meaning their nominal values change daily during inflation, deflation and hyperinflation because unstable money (unstable pesos in the case of Chile) - fixed in nominal value but continuously changing in real value - is being used as the unstable medium of exchange, unstable store of value and unstable unit of account in the economy.

There is no cost of inflation at any level of inflation when there is complete coordination and everyone rejects the stable measuring unit assumption and inflation-adjusts all monetary items in terms of a Daily Index. This requires accounting the daily inflation-indexing of all monetary items in terms of a Daily Index with the total money supply in the banking system. Monetary items are inflation-adjusted daily because there is no stable measuring unit assumption under financial capital maintenance in unit of constant purchasing power during inflation and deflation; i.e. under CIPPA.

There will also be no cost of the stable measuring unit assumption which requires accounting constant items in units of constant purchasing power in terms of a Daily Index and accounting variable items in terms of IFRS with all historical variable items and historical constant items updated in terms of a Daily Index because there is no stable measuring unit assumption under financial capital maintenance in units of constant purchasing power during inflation and deflation (CIPPA).

Under CIPPA each of the three economic items consists of three elements at the date of an event/exchange/transaction/contract: (1) the nominal economic value of the item expressed in terms of unstable money (the legal unstable unit of account fixed in nominal value), (2) the date of the event/exchange/transaction/contract and (3) the nominal index value of the Daily Index on that date which is fixed in real terms. The nominal monetary value of, for example, a constant item changes daily in terms of the Daily Index, but, its real value is maintained constant over time during inflation and deflation under CIPPA. A constant item´s constant real value is not expressed as a constant value under CIPPA because there is no fixed constant real value unit of account available yet.

A single unit of constant real value

Theoretically a global perfectly stable unit of fixed constant real value would be equal to one monetary unit in a world economy in a global monetary union with a single currency under indefinite perfectly sustainable zero inflation.

It is argued that important practical problems in implementing indexation are solved by creating such indexed units of account. The author advocates creating such units in other countries, even countries with relatively low rates of inflation such as the
United States.
(Shiller, 1998, P1)


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