The general price level is a hypothetical measure of overall
price
A price is the (usually not negative) quantity of payment or compensation given by one party to another in return for goods or services. In some situations, the price of production has a different name. If the product is a "good" in the ...
s for some set of
goods and
services (the
consumer basket), in an economy or
monetary union during a given interval (generally one day),
normalized relative to some base set. Typically, the general price level is approximated with a daily
price ''index'', normally the Daily
CPI. The general price level can change more than once per day during
hyperinflation
In economics, hyperinflation is a very high and typically accelerating inflation. It quickly erodes the real value of the local currency, as the prices of all goods increase. This causes people to minimize their holdings in that currency as t ...
.
Theoretical foundation
The
classical dichotomy is the assumption that there is a relatively clean distinction between overall increases or decreases in prices and underlying, “nominal” economic variables. Thus, if prices ''overall'' increase or decrease, it is assumed that this change can be decomposed as follows:
Given a set
of goods and services, the total value of transactions in
at time
is
:
where
:
represents the quantity of
at time
:
represents the prevailing price of
at time
:
represents the “real” price of
at time
:
is the price level at time
The general price ''level'' is distinguished from a price ''index'' in that the existence of the former depends upon the classical dichotomy, while the latter is simply a computation, and many such will be possible regardless of whether they are meaningful.
Significance
If, indeed, a general price level component could be distinguished, then it would be possible to ''measure'' the difference in overall prices between two regions or intervals. For example, the
inflation
In economics, inflation is an increase in the general price level of goods and services in an economy. When the general price level rises, each unit of currency buys fewer goods and services; consequently, inflation corresponds to a reduct ...
rate could be measured as
:
and “real”
economic growth
Economic growth can be defined as the increase or improvement in the inflation-adjusted market value of the goods and services produced by an economy in a financial year. Statisticians conventionally measure such growth as the percent rate o ...
or contraction could be distinguished from mere price changes by
deflating GDP or some other measure.
:
Measuring price level
Applicable indices are the
consumer price index
A consumer price index (CPI) is a price index, the price of a weighted average market basket of consumer goods and services purchased by households. Changes in measured CPI track changes in prices over time.
Overview
A CPI is a statisti ...
(CPI), Default Price Deflator, and the Producer Price Index.
Price indices not only affect the rate of inflation, but are also part of real output and productivity.
[SAMUELSON, P. A., NORDHAUS, W. D. ''Ekonomie.'' 19. vydání. Praha: NS Svoboda, 2013. 715 s. .]
See also
*
Price index
*
Equation of exchange In monetary economics, the equation of exchange is the relation:
:M\cdot V = P\cdot Q
where, for a given period,
:M\, is the total money supply in circulation on average in an economy.
:V\, is the velocity of money, that is the average frequency w ...
*
Quantity theory of money
In monetary economics, the quantity theory of money (often abbreviated QTM) is one of the directions of Western economic thought that emerged in the 16th-17th centuries. The QTM states that the general price level of goods and services is directly ...
*
Wage level
References
Sources
*
*
Mises, Ludwig Heinrich Edler von; ''Human Action: A Treatise on Economics'' (1949), Ch. XVII “Indirect Exchange”, §4. “The Determination of the Purchasing Power of Money”.
{{Authority control
Pricing
Monetary economics