Real money is a type of money issued by a central bank as a legal payment instrument in a country, including banknotes and coins.
The term also refers to money in terms of its purchasing power on goods and services. The purchasing power of money decreases when prices rise. We need more money to buy the same products with the same quantity. The opposite condition applies when prices fall.
In aggregate, rising prices for goods and services refer to inflation.
Therefore, inflation causes the real value of money to fluctuate. Inflation rises and falls, depending on the state of the economy.
During economic expansion, inflation creep up. Because the purchasing power of money goes down, workers ask for higher nominal wages. Likewise, banks charge higher interest premiums to compensate for inflation risk.
Nominal and real money
Nominal money refers to the actual value that money has. The amount stated in a banknote, that’s the nominal value. In Indonesia, it is in various denominations, Rp1,000, Rp5,000, Rp10,000 and Rp50,0000 and Rp100,000.
Because it is not in terms of its purchasing power, the nominal money is not affected by inflation and thus preserves its value over time.