Quantity theory of money

The quantity theory of money is an economic theory which assumes a causal dependency of the price level of the money supply under certain conditions.

Derivation

Starting point of the presentation may constitute a traffic or quantity equation, which states in effect, that the converted in a given period money supply is equal to the monetarily valued goods trade in an economy:

Here M is the money supply, V is the velocity of money, P is the price level and Y is the volume of trade ( real goods ), correlates strongly with the GDP (gross domestic product). Therefore, the GDP with the Y is equated in many representations of the quantity equation. This representation is, however, strictly speaking, incorrect because the volume of trade differs among other things, the stock changes from GDP.

Therefore applies to the price level P:

From this equation, a version of the quantity theory can be derived, after which the price level is explained in its height depends only as of the money supply. Condition for this is:

Here P is constant, that is proportional to M.

Basis of the "modern" monetarism is a newer form of the quantity theory, in which it is only assumed that the velocity of circulation and at least in the longer term, the real trading volume (and thus the real production) are essentially determined independently of the money supply. Changes in the money supply thereby have in any case long-term primarily on the price level from. In particular, according to this theory too rapid expansion of the money supply is regarded as the main cause of inflation.

The impact of monetary policy on the price level and macroeconomic processes is discussed under the concept of neutrality of money, with very different views coexist.

Criticism of the quantity theory

The conclusions of the quantity equation depend only on whether the equation is read from left to right, so that a higher money supply causing higher prices, or simply reversed from right to left, that at higher prices, a greater circulation of money takes place. The equation does not prove that the higher prices caused by a higher money supply and not vice versa.

The decisive objection to the alleged causal for the price level of money supply: We can think of an economy in which all payments are handled cash on bank accounts and are, at baseline, all accounts to zero. After a certain period, all households should have their income spent so that all accounts at the end time are reset to zero. There was therefore neither the beginning nor the end any money in the economy and determine between the banking system may have settled by transfers with temporary overdraft the accounts, the transactions with any arbitrarily high price levels.

History

Even Jean Bodin developed the basic ideas of the later quantity theory. The first complete formulation of the essential elements of the quantity theory comes from the English philosopher John Locke, which he based on the concept of velocity of circulation Bodin introduced and the nature of money as a medium of exchange through convention stressed (according to Aristotle ). Later the concept of David Hume was shown in simplified form. The economist Irving Fisher attacked the concept of later and improved it. The most important representatives of the neo- quantity theory of money is the American Milton Friedman.

Recognition and rejection by various economic schools

The various schools of thought in economics evaluate the quantity theory differently and draw in the case of advocacy also different conclusions. John Maynard Keynes rejected the assertion associated with the quantity theory that the central bank can not affect the real economy by controlling the money supply influence prices. A policy of deflation, as it was provided with the return of England to the gold standard in 1925 will, lower prices do not automatically, but only by a deliberately induced by monetary policy unemployment. Representatives of Keynesianism see a connection between monetary policy and economic activity and demand that the nation-states should give economic incentives through additional spending during a recession, which would be financed, the acceptance of a risk of inflation by increasing the money supply through credit creation. Representatives of monetarism consider the theory to be valid, however, and advocate a strict constancy of the money supply and a waiver of government influence. Representatives of the Austrian school see a fixed relationship between money and monetary value. You see inflation as a direct result of monetary expansion. Representative of popular especially in the U.S. libertarian currents reject both fiat money as ever any government influence on the money from, such as the control of the amount of money supply. Instead, some are working for the reintroduction of the gold standard in order to avoid high inflation can. Others call free competition of money, because there is no one can influence the amount of money for his benefit. Negative consequences of the gold standard and the necessary stability, deflation and austerity are little noticed - hardly understood as macroeconomic risks.