This simple activity demonstrates a key economic idea: When the money supply in an economy increases, the prices of goods and services tend to rise. Students participate in two auctions: The goods in each auction are identical, but the money supply given to students increases from the first to the second auction. The activity results in higher prices when the money supply is greater. Students learn that if the money supply grows at a faster rate than the economy’s ability to produce goods and services, inflation will result. This is inflation caused by “too much money chasing too few goods.”
Lesson Author: Scott Wolla, Ph.D., Federal Reserve Bank of St. Louis
Ages: 12 to adult
Compelling Question: How are the money supply and inflation related?
Time Required: 20 minutes
Standards (see below)
- define money and inflation and
- describe the relationship between the money supply and inflation.
- “Teaching About Money and Inflation Using a Classroom Inflation Auction” PowerPoint slides (download the slides)
- Handout 1: Funny Money, enough copies cut apart so that each student will receive approximately 12 bills each, keeping in mind that some students will receive more bills than others (download the handout)
- Enough beans so that students will receive approximately 12 beans each, keeping in mind that some students will receive more beans than others
- Two sets of three identical items for two auction rounds; items should be of interest to students, for example, a candy bar, homework pass, and hall pass
- Divide the Funny Money (or beans) so that approximately one-third is available for auction Round 1 and two-thirds is available for auction Round 2.
Part 1: What Is Money?
- Display Slide 2. Introduce the activity by asking the students, “What is money?” (Answers will vary.)
- Display Slide 3. Explain that money is anything widely accepted in exchange for goods and services. More precisely, U.S. currency is fiat money, which means it has no intrinsic value (no value of its own) or representational value (not representing anything of value, such as gold).
- Discuss the following about why people value U.S. dollars:
- Why are you happy when you get U.S. dollars in a birthday card? (U.S. dollars can buy goods and services.)
- Why do employees work to receive U.S. dollars? (Answers will vary but will likely include that people work for money so that they can buy goods and services.)
- Why do businesses accept U.S. dollars in exchange for other goods or services? (Businesses accept U.S. dollars so that they can pay employees and buy other goods and services.)
- Explain that money facilitates economic activity, but too much or too little money can cause problems. Discuss the following:
- How would your spending likely change if you had more money? (They would likely spend more money.)
- In general, is spending good for the economy? (Yes, more spending can lead to more production of goods and services. More production can lead to more jobs and income for people. This chain of events results in an expanding economy.)
- If more money results in more spending, and more spending can cause economic growth, why shouldn’t the government continuously add money to the economy? (Answers will vary.)
Part 2: Inflation Auction
- Distribute the Funny Money (or beans) to students in a random fashion. Attempt to make sure that the amount of money students receive is varied (2 to 6 bills [or beans] each) to ensure that someone wins the auction rather than it ending in a tie.
- Display Slide 4. Tell the students they will participate in an activity designed to help them understand the role of money in the economy. Explain the rules for the auction:
- Three items will be auctioned (by the teacher).
- The highest bidder will win each item.
- The three items represent the total output of goods and services produced in the classroom economy.
- Each Funny Money bill (or bean) is worth $1.
- You may not combine your money with anyone else’s in the room.
- Show the students the three auction items. Conduct the auction as follows:
- Invite the students to bid, sell each item to the highest bidder, and note the final selling price of each item. Collect the Funny Money (or beans) from each winner as part of the transaction.
- Display Slide 5. Record the price of each item sold and calculate the total.
- Explain to the students that you will conduct another auction round as follows:
- You will distribute additional money.
- You will auction three items identical to the ones from Round 1.
- If anyone has money left over from Round 1, he or she may use that money in this round. The “new” money is equal in value to the old money.
- Distribute in random amounts approximately double the amount of money distributed in Round 1 (perhaps 6 to 12 bills [or beans] each). Conduct the auction as before. NOTE: Prices should be considerably higher in Round 2. If students are not bidding high prices, encourage more bidding by reminding students that this is the final auction round and that their money cannot be used to buy goods and services outside the classroom.
- Complete the Round 2 column on Slide 5. Discuss the following:
- What happened to prices in Round 2 compared with those in Round 1? (Prices were higher in Round 2.)
- Were the goods in the auctions different in any way? (No, they were exactly the same.)
- Were there any more items available to buy in Round 2 than in Round 1? (No, the number of items was the same in both auctions.)
- Why were prices higher in Round 2? (People had more money in Round 2, so they were able to bid higher amounts for the identical items than they could in Round 1.)
- How would you summarize the relationship between the money supply and prices? (The money supply and the prices of goods and services are directly related.)
- Display Slide 6. Explain that the increase in prices between Rounds 1 and 2 is an example of inflation. Further explain inflation as follows:
- Inflation is a general, sustained upward movement of prices for goods and services in an economy.
- Inflation is an increase in the average level of prices in the economy, not the individual prices of a few goods. For example, while the prices of gasoline and movie tickets might increase, the prices of computers and baseball tickets might decrease.
- Economists say inflation occurs when “too much money is chasing too few goods.” This is likely to occur when the money supply increases at a faster rate than the supply of goods and services produced in the economy.
- To review key features of the inflation auction and discussion, watch the video below.
- Display Slide 7. Conclude the activity by discussing the following:
- What is money? (Anything widely accepted in exchange for goods and services.)
- What is inflation? (Inflation is a general, sustained upward movement of prices for goods and services in an economy.)
- What is the relationship between the money supply and inflation? (Inflation is caused when the money supply increases at a faster rate than the supply of goods and services produced in the economy.)
Standards and Benchmarks
Voluntary National Content Standards in Economics
Standard 11: Money and Inflation. Money makes it easier to trade, borrow, save, invest, and compare the value of goods and services. The amount of money in the economy affects the overall price level. Inflation is an increase in the overall price level that reduces the value of money.
- Benchmark 4, Grade 8: Inflation reduces the value of money.
- Benchmark 5, Grade 12: In the long run, inflation results from increases in a nation’s money supply that exceed increases in its output of goods and services.