Economics: Removing Zeros from Currency Causes Inflation?

[Chairman Wood]

A while back I was having a conversation with a friend of mine who has much more knowledge then me in Economics. This was a while ago so I might have things confused. I was telling him about South Korea and how their currency the Won is in a position where 1000 Won is worth slightly more than $1USD. I stated that it might be easier if they just removed a zero(or more) because no one ever uses the last holding. He told me that when countries do this with their currency in causes inflation.

Am I remembering what he said correctly or is this completely wrong?

Also why does this cause inflation?

[hmkpoker]

My guess would be that businesses are more likely to round their prices up to the nearest unit than down. Like if they get rid of the penny and have to round to the nickel, things that cost $1.77 will go up to $1.80.

It probably doesn't matter much to the average consumer. The only place it matters is in a large market, where large numbers of very small shares are being purchased. Fortunately in these situations we treat dollars and cents as indefinately divisible and just round to the nearest unit upon completion of the total sum of transactions. Happens with gas too, notice how gas stations charge you weird prices like $1.97 9/10?

[FortunaMaximus]

Psychologial, I suspect. It's been tried in Mexico, and Russia.

I'm not sure the inflation isn't simply already on an upswing when this measure is done anyway. In the case of those two instances, it was an runaway inflatory effect, IIRC.

[Chairman Wood]

[ QUOTE ]
My guess would be that businesses are more likely to round their prices up to the nearest unit than down. Like if they get rid of the penny and have to round to the nickel, things that cost $1.77 will go up to $1.80.

It probably doesn't matter much to the average consumer. The only place it matters is in a large market, where large numbers of very small shares are being purchased. Fortunately in these situations we treat dollars and cents as indefinately divisible and just round to the nearest unit upon completion of the total sum of transactions. Happens with gas too, notice how gas stations charge you weird prices like $1.97 9/10?

[/ QUOTE ]

This does make sense and probably contributes to at least some of it but I think that he was talking about something on a greater scale then just this. At least an order of magnitude or more.

[Chairman Wood]

[ QUOTE ]
Psychologial, I suspect. It's been tried in Mexico, and Russia.

I'm not sure the inflation isn't simply already on an upswing when this measure is done anyway. In the case of those two instances, it was an runaway inflatory effect, IIRC.

[/ QUOTE ]
Could be right. He did cite those two countries as examples. I remember him saying that this did CAUSE higher inflation though. He of course could be wrong and doesn't understand the whole cause/coorelation difference. But I do think that is unlikely. I don't know I'll try to find out.

[FortunaMaximus]

You could compare the trend lines of those two currencies pre and post changeover with, say, the Argentine peso, which did also suffer a severe runaway inflationary effect fairly recently.

I'd be surprised, however, if there wasn't a slowdown in the pace of inflation after the changes were introduce, instead of the reverse. Human nature is cautious when dealing with new stuff. I think of a Russian going, "Matyervebets, what is this worth again?" and basically taking the time to figure out the difference.

[Jasper109]

They chopped 4 zeros off in Poland about 10 or 15 years ago.

10000 Zlotys became 1 Zloty.

I don't think it caused anything to really happen. It just didn't make much sense for a loaf of bread to cost 3000 Zlotys, and coins went back to being more rational small denominations.

[FortunaMaximus]

Sounds painful. This would be post-Wall, yeah?

[Jasper109]

Ya. I can't remember exactly what year, but I'm guessing around 93-95.

I still have some of the old bills. In those days the official exchange rate at banks sucked, so you had to exchange dollars for zlotys on the black market. (all very clandestine) lol

Until around that time the government made you exchange x number of dollars for zlotys (at a crappy rate of exchange) for every day that you stayed as a tourist. I believe it was like $30 or $40 a day. So when I went for 6 weeks I'd basically have to pay for air fare + an extra $1000 down the
toilet.

Ah, the good old days. The dollar was king. Now it sucks, because prices in stores there now are basically the same as here. (even though the average salary is one-fifth of what it is here.

[FortunaMaximus]

Heh. I've read a lot into Cold War Soviets and satellites. Grew up in the era, ya know. Always found it fascinating. Should visit eventually.

Still, if OP can dig up the histories of those currencies and compare trend lines, it'd make an interesting counterargument to his friend.

[mgsimpleton]

The price level is not affected by nominal variables such as price. Reducing the denominations wouldn't affect the buying power of a day's wages.

Printing a new batch of currency would eat up a portion of the countries GDP, so the price level would rise slightly (inflation)

[FortunaMaximus]

Well, that can be accounted for and discounted from the overall inflation rate, no?

Once that's done, and that might be difficult to establish, as the governments that have done this measure are notoriously close-lipped about their spending... It should be a fairly simple process from that point on.

[mgsimpleton]

When the goverment uses 0.01% of the countries GDP, thats 0.01% of your salary lost, so your buying power goes down.

[Jasper109]

Eastern Europe is very cool these days. Less expensive than Western Europe, and a bunch of great places to visit.

Krakow, Warsaw, Prague, Bratislava, and Vilnius all have a lot to offer for tourists.

I still need to get to Budapest and Moscow.

[FortunaMaximus]

[ QUOTE ]
When the goverment uses 0.01% of the countries GDP, thats 0.01% of your salary lost, so your buying power goes down.

[/ QUOTE ]

Basically, yeah. Thanks for the review.

Uh, the OP's question deals more about whether the effects of the change affects inflation as a whole, and not the costs involved with this transition.

Thoughts?

[FortunaMaximus]

[ QUOTE ]
Eastern Europe is very cool these days. Less expensive than Western Europe, and a bunch of great places to visit.

Krakow, Warsaw, Prague, Bratislava, and Vilnius all have a lot to offer for tourists.

I still need to get to Budapest and Moscow.

[/ QUOTE ]

So I've read. Very interested in Russia moreso than anything. They've got a fascinating history. Especially want to check out St. Petersburg and deep into the heartland, Siberia too. It's not quite the most accessible region in the world.

Antarctica also, but I can't figure out any other way to get there except to get assigned to McMurdo whether civilian or military, or one of those wonky 11-day cruises that seem to sail from Aussie.

[Jasper109]

Inflation in the early 90's in Poland was crazy. Things have become more stable in recent times.

In 1995, after the chopping of the 4 zeros, it was basically close to $1 = 1 Zl, and almost 12 years later it's $1 = $3 Zl.


Wikipedia (http://en.wikipedia.org/wiki/Polish_z%C5%82oty)

[Jasper109]

[ QUOTE ]
So I've read. Very interested in Russia moreso than anything. They've got a fascinating history. Especially want to check out St. Petersburg and deep into the heartland, Siberia too. It's not quite the most accessible region in the world.

[/ QUOTE ]

I don't quite have the same fascination with Russia. Probably somewhat because of the Poland-Russia history. I was actually in Poland during martial law, and it was fairly scary.

Flying into Warsaw on an old Ilyushin (LOT has nice new Boeings now), soldiers with guns to greet you as you got off the plane, an airport that was basically a dilapidated hanger, depressing grey buildings.

Things are much different these days.

[FortunaMaximus]

Karol Swierczewski bears more than a passing resemblance to Mao. <blinks>

Euro by '10, huh. I suppose a single currency makes sense for Europe. Still, part of the fun, I'd imagine, is figuring out what money to use in what country. /images/graemlins/tongue.gif

[FortunaMaximus]

I'm not sure Russia thought it had much choice in the matter. They needed a barrier post-WW2, and you can be sure the Russian psyche was very scarred from that conflict. Have read some battlefield accounts of the German incursion, and it can get sickening if you don't approach it in the right mindset. Cannibalism, body count, etc.

It's a lot to do with the Soviet-Canada hockey clashes, and I always found the whole CCCP mindset interesting. Read Tretiak's bio when it came out in the mid-eighties.

As far as Siberia goes, I tend to think it's fascinating terrain. So vast, you know? I suppose I could get the same experience in Northern Ontario, though, but... The people are what make the place, I think.

[Jasper109]

In the mid 90's when I was over there quite a few times you could still use the old Zloty or the new Zloty. Now that was confusing.

I miss those days. I have a couple of aunts and many cousins over there. In the 80's a bottle of vodka cost less than one dollar, and a 24 pack of beer was like $2 or $3. I would go over for the summer and have a REALLY good time.

I'm not sure if the Euro thing is good for Poland. The economy still has a long way to go, and there will be growing pains for probably 15 or 20 more years.

It seems like half of the country (younger people) are working in England, Germany, US, etc.

[Jasper109]

[ QUOTE ]
As far as Siberia goes, I tend to think it's fascinating terrain. So vast, you know? I suppose I could get the same experience in Northern Ontario, though, but... The people are what make the place, I think.


[/ QUOTE ]

I was born and raised in Yellowknife, so I've had my fill of northern terrain. LOL

You are right about the people making the place. Some very interesting people up north.

[FortunaMaximus]

Yeah. We'll see how the transition goes.

Probably bedtime. Reasonably social schedule these days. I'll catch ya around, Jasper. Take it easy.

Edit: Or not. Yay for dopamine. /images/graemlins/mad.gif