The rate of inflation in an economy tends to increase when the purchasing power of money does what over time?

Introduction / Context:
Inflation is commonly defined as a sustained rise in the general price level of goods and services in an economy over time. Another way to view inflation is as a decline in the purchasing power of money, meaning that each unit of currency buys fewer goods and services than before. This question asks how changes in the purchasing power of money relate to the rate of inflation.

Given Data / Assumptions:

• Purchasing power of money refers to the quantity of goods and services that can be bought with a given amount of money.
• Inflation refers to the rate at which the general price level is rising.
• There is an inverse relationship between the price level and the purchasing power of money.
• Other factors such as economic growth and changes in output are not directly considered in this simple conceptual question.
• We focus on the broad trend rather than on short term fluctuations.

Concept / Approach:
If prices of goods and services rise, a fixed amount of money will buy fewer items than before. This means that the purchasing power of money has decreased. Inflation, by definition, is the process of rising prices, so higher inflation corresponds to a faster decline in the purchasing power of money. Conversely, if prices are falling, the purchasing power of money increases and the rate of inflation becomes negative, a situation called deflation. Therefore, an increase in the rate of inflation is associated with a decrease in the purchasing power of money.

Step-by-Step Solution:
Step 1: Recall that the purchasing power of money is inversely related to the general price level.Step 2: When prices double, the same amount of money can only buy half as many goods and services as before, which means purchasing power has fallen.Step 3: The rate of inflation measures how quickly the general price level is rising over time.Step 4: If the inflation rate increases, prices rise more rapidly, and the purchasing power of money diminishes more quickly.Step 5: Therefore, an increase in the rate of inflation corresponds to a decrease in purchasing power.Step 6: Among the options, the statement that purchasing power decreases matches this inverse relationship.

Verification / Alternative check:
Economics textbooks often illustrate the relationship by noting that if inflation is 10 percent per year, then after one year, the same amount of money will buy roughly 10 percent fewer goods, assuming wages and other incomes do not rise at the same rate. They sometimes express purchasing power as 1 divided by the price level, which directly shows that as the price level increases, purchasing power declines. This confirms that rising inflation and falling purchasing power go together.

Why Other Options Are Wrong:
Option b states that inflation increases when purchasing power increases, which would require prices to fall, contradicting the definition of inflation. Option c suggests that purchasing power remains stable, which would imply zero inflation over time, not an increasing inflation rate. Option d gives a specific partial change without describing price behaviour and does not generally characterise the relationship between inflation and purchasing power. Option e is unrealistic and does not correspond to any standard economic scenario.

Common Pitfalls:
Some learners focus only on nominal amounts of money and forget that what matters is what money can buy. They may think that a higher money income automatically means higher real purchasing power, even if prices are rising faster. To understand inflation properly, it is important to think in real terms: higher inflation erodes the real value of money balances and fixed incomes by reducing what they can purchase.

Final Answer:
The rate of inflation increases when the purchasing power of money decreases, so that each unit of money buys fewer goods and services.