(a) Explain the function of money as a (i) measure of value [5 marks] (ii) store of value. [5 marks]
(b)Show how inflation affects these two functions of money [10 marks]
Explanation
(a)(i) Money as a measure of value means that money serves as a common denominator for measuring the relative values of goods and services. In other words, money is used to express the value of one commodity in terms of other commodities. As the values of commodities are stated in terms of money, their relative values are automatically established. For example, if a cutlass sells for $4 and a table is priced at $40, it means one table is worth 10 cutlasses.
(ii) Money as a store of value means that money makes it possible for a person to save part of his current income or produce for later use. Whatever is produced can be sold and kept in the form of money for future use. This is because goods may be perishable Services are also intangible. It will be difficult for a
teacher or a doctor to save part of his output in the absence of money.
(b) How inflation affects money as a measure of value: Since inflation reduces the value of money, its function as a measure of value is affected. If the inflation is general, prices may rise to the same extent so that relative values of commodities would remain unchanged. On the other hand, if the inflation affects some commodities more than others then the relative values between commodities would change.
How inflation affects money as a store of value: When there is inflation money loses value. More money is exchanged for a particular commodity.
In other words, a given unit of money exchanges for less goods. In such circumstances people hesitate to store their wealth in terms of money. The money
saved would lose part of its value. It would exchange for less output in future than now. In such circumstances people prefer to save in terms of assets which are likely to appreciate in value like land and buildings.