|For Release:||December 30, 1997|
|Contact:||John Martin, 216/579-2847 or June Gates, 216/579-2048|
America has very rigorous standards for measuring a variety of otherwise subjective phenomena - 56 degrees Fahrenheit is jacket weather, and a pound and a half of round steak will serve four adults. Yet the standard on which millions of people base their financial decisions - the U.S. dollar - is continually distorted by inflation, says Federal Reserve Bank of Cleveland Assistant Vice President and Economist Michael Bryan.
Writing in a recent issue of the Bank's Economic Commentary (titled “Bad Standards”), Bryan says that the essential attribute of any measurement standard is that it can be counted on to convey accurate and consistent information. However, Bryan shows that arbitrarily set standards can be easily changed, and that there are often incentives to change them - despite the confusion this causes.
Bryan explains that the value of the dollar can be arbitrarily set because today's U.S. currency is a fiat standard - the dollar has no intrinsic value, but is defined entirely by its purchasing power. Thus, when the purchasing power of the dollar is allowed to change - that is, when inflation is tolerated - the nation's measure of value shrinks.
Many have maintained that the national welfare can be improved by allowing the value of the dollar to fluctuate. But, when the dollar's crucial role as a measure of value is considered, Bryan says such claims are hard to justify.
Some have also maintained that the dollar would be a more reliable standard if it were again defined by gold or some other commodity. Bryan argues strongly against such a commodity standard, showing that the value of commodity money must vary with the supply and demand conditions for the commodity itself.
The merit of the fiat dollar is that the Federal Reserve can set its value by controlling its supply (relative to its demand). If policymakers use this power to fix an invariant U.S. standard of value, Bryan concludes, they can enhance economic efficiency by ensuring that decisions involving value are as clear and accurate as possible.
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