We saw how the price of any good in a barter system is an array of all the different units of goods that could be exchanged for that good.  Another term for the price of a good is its purchasing power.  In a money economy, prices for all goods except for the money commodity can be given purely in terms of the monetary unit, making calculation and forecasting more reliable.  The only price which must still be stated as an array is the price of money itself.  The price of money is often called the purchasing power of money.  As with other prices, the price of money will tend to be uniform throughout the market; this is more likely due to the high marketability of money.

The price of money, as with all other goods, is determined by supply and demand, and ultimately by individuals’ value scales.  But unlike other goods, which are ultimately valued according their use-value (or for producers’ goods the use-value of the consumers good they will co-produce), money is demanded primarily as a medium of exchange. 

The total money in existence – the money supply – is fixed at any given moment, since all money must be in somebody’s cash balance.  The demand for money is the summation of all the individuals’ demands for cash balances.  What happens then, if the total demand for money exceeds the total supply?  i.e. what if, on average, people want to increase their cash balances?

Assuming no new money is created, as with all other goods this will cause an increase in the price of money, that is, an increase in the purchasing power of money.  This is the same as saying that there will be a decrease in the price of all other goods.  The price of goods will go down until individuals are satisfied with their new cash balances.  Conversely if, on average, individuals want to decrease their cash balances, prices of goods will increase.

Note that it is impossible (with no new money created) for all individuals to increase their nominal cash balances.  But individuals are not concerned with their nominal cash balances, only with their real cash balances.  That is, the amount of goods they can buy with the money they are holding.  A decrease in goods prices will have the same effect as increasing nominal cash balances with no goods price change.

Since money is a durable good, it will have both a purchase price, and a rental price.  As with all other goods, the rental price will be determined by time-preferences: it will be the discounted present value of its total expected flow of future services.  For example, $9,000 now could be considered better than $10,000 in the future.  The rental price of money is called the interest rate or pure discount rate.  It is the premium on present goods as opposed to future goods.  Since money is valued primarily for its purchasing power, expectations of future changes in the purchasing power of money (prices of goods) affect individual’s time-preferences.

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