There are so many cases where we fail to understand how valuable the token we have at disposal is just because we don't know how well to compute them comparing them to the previous year.
One good thing about this is that it can also help one to be able to predict what is likely to happen in the future and it will help you to plan very well and know how to manage your standard of living making your self prepared for whatever that is to come up
Since the demand for money is derived from demand i.e ( people demand money for the sake of what it can buy). The amount of money demanded is dependent on the real value of money. The real value of money is the number of goods and services that money can buy; It is also called purchasing power of money.
The purchasing power of money is inversely related to the price level. The higher the price level the smaller the number of goods and services that a given amount of money can buy. Consequently, the lower the value of money.
It can be illustrated with an example 2021February the price of 1 HBD is 3.00 dollars but currently cost 1.9 dollars. The price decreased thereby increasing the purchasing power of money from 1 HBD to almost 2 HBD.
The price level can be determined with the use of a price index.
A price index is a method of compiling average price changes for a group of goods and services. The price modifications will enable us to discern the changes in the purchasing power of money. The price index is computed for a variety of motives. I.e Wage index, Import price index, Cost of living index, etc. There are so many Index on which changes in the price of goods and services can be determined. The above-mentioned index is some of the common ways one can be able to easily determine whether there is a positive change or a negative change in the prices of what we transact for.
In the computation of the price index, there are some guidelines to follow to get the right computation for any commodity or service.
*The first step is to select the group of commodities that best fits the type of price index you evaluate.
Let us take for criterion, one wants to compute for crypto. What one needs to do in selection is to make sure to select a particular crypto for example #Bitcoin, now you have succeeded in selecting the commodity you want to compute after successfully selecting the Crypto.
The second step is selecting the period you will want to make your comparison for instance 2020 which is the previous year and 2021 which is the current or present year. But while selecting the year for effective comparison one should note to select the year that is having this should be done so as not to falsify the result of the price index.
Thirdly there should be a proper selection of people who are engaged in frequent transactions this period (INCOME GROUP) or (TRANSACTION GROUP) these are the people that will give you a great insight of how the money comes and goes.
With the above techniques and computation, one will be able to have a result of an index number, which will show is whether the price level increased or it decreased relative to the base year price level. Taking a good example, if we have these price index numbers of a Bitcoin (2020 base year)= $20,000 which is at about 20%, and in 2021= $15,000 which is at 15%. This means that the price of the crypto which is @ $20,000 in 2020 but now costs $15,000 implies that the price has dropped by 5%.
What are some of the problems of price indices?
The choice of year is one major problem in the computation of price indices simply because it is difficult to find a year with reasonably stable prices. Consequently, the base year selected is often based on subjective considerations.
Price indices are not useful for quite a long period. It can not be compared for a long period since prices are not static.
Still considering the above-mentioned problem of computing price indices, One can realize that the price index does not provide a satisfactory measure of the value of money, rather it can be called an average measure of changes in the value of money or purchasing power of money.
Changes in the value of money have different Impacts on the economy. But I will like to center the impact on the standard of living.
Whenever the value of money rises ( as a result of the falling price level) the cost of living falls and the standard of living increases, but when the price level rises, the value of money falls, as a result, the cost of living rises and standard of living falls.
