Download Keynesian interpretation of the quantity theory of money

Ukrainian Academy of Banking
of the National Bank of Ukraine
Banking Department
Money and Credit
Lecture 2
Theories of money
Anna Serhiivna Lasukova,
Assistant at Banking
Department
Agenda
1. Nominalist VS Metalist theory of money.
2. Quantity theory of money.
3. Keynesian interpretation of the
quantity theory of money
4. Monetarism
The basic
Theory of money
Marx’s
Metalist
State (government)
Nominalist
Theory based on an
abstract nature of money
Monetarist’s theory of money
Classical
quantity
theory
Neoclassical
quantity theory
Keynesian
interpretation
Modern
monetarism
Neo-Keynesian
interpretation
NOMINALISM
Nominalists theory of money formed
in XVII-XVIII centuries, when money
circulation was full of inferior coins. It is
relates to the basic problem of money, the
problem of its value.
REPRESENTATIVES
Georg Friedrich Knapp
developed the state theory of money, an
approach that is directly opposed to the
Metalist view, according to which the
value of money derives from the value of
the metal standard (for example, gold or
silver).
According to Knapp, metalists try to “deduce” the
monetary system “without the idea of a State.”
Money - only symbols that are released into circulation state
Nominalism features
Value denotes consequently nothing positive or intrinsic, but merely
the relation in which two objects stand to each other as
exchangeable commodities.
Nominalists don't recognize value as a quality immanent to
the very nature of the commodity.
Value and price are the
result of the same
mental act.
Nominalism disadvantages
 money
arose spontaneously in the development
of commodity production and exchange;
 only after gold (silver) became the general
equivalent and the measure of value, there is a
possibility of forming a price
scale;
 money can measure and
express the value of
commodities because they
has intrinsic value;
 the functions of state
authority over money are
formal
METALLISM
"Pound Sterling is a certain
quantity of gold with a stamp
which certifies to its weight
and its fineness. A standard
unit of account is a certain
weight of standard metal”.
Sir Robert Peel
PRINCIPLES OF METALLISM
(1) the amount of wealth was static;
(2) country's wealth could best be judged by the amount of
precious metals;
(3) the need to encourage exports over imports;
(4) the value of a large population as a key to self-sufficiency
and state power;
(5) the state should exercise a dominant role in assisting and
directing the national and international economies.
"money as a commodity"
“it is
equivalent to
a certain
metal from
which it is
coined”
Representatives of the theory
In England: Stafford, T. Meng,
D. Hope;
In Italy: F. Haman;
In France: A. de Montchretien.
The delusion of mercantilists views are
 recognition of gold and silver as money of their nature;
 “goods = money”;
 lack of understanding of the essence
of money as a some kind of
commodity, which performs a
specific social function as general
equivalent;
 ignoring the fact that money is a historical category
Quantity theory of money
The quantity theory of money rests on the idea that there is
a quantifiable relationship between the supply of money and
the level of prices of goods and services in the economy.
This assumes that money is just like any other commodity in
the economy and that changes in the money supply will be
reflected in the relative value of
money to goods and services.
Representatives of the theory
The quantity theory descends from Copernicus, followers of
the School of Salamanca, Jean Bodin, Henry Thornton, and
various others who noted the increase in prices following the
import of gold and silver, used in the coinage of money, from
the New World.
Representatives of the theory
The “equation of exchange”
relating the supply of money to
the value of money transactions
was stated by John Stuart
Mill who expanded on the ideas
of David Hume.
The quantity theory
was developed by
Simon Newcomb,
Irving Fisher,
and Ludwig von
Mises in the late
19th and early 20th
century.
THEORY SPECIFICATION

the Cambridge cash-balance equation
The Cambridge approach is a microeconomic approach,
describing individual choice rather than market equilibrium.
The Cambridge approach moved the analytical focus from a model
where the velocity of money was determined by making payments
to one where market agents have a demand for money.
the Cambridge cash-balance equation
money is held not only as a medium of
exchange for
making transactions as in Fisher’s case,
but also as a store
of value, providing
satisfaction to
its holder
the Cambridge cash-balance equation
Cambridge economists pointed out
the role of wealth and the interest rate
in determining the demand for money
Formalizing the Cambridge approach
The main conclusion of the the
Cambridge version of quantity theory
of money is that with constancy K and P, there
is inverse proportional relationship between the
value (purchasing power) currency and the
value of existing farm cash balances
Keynesian interpretation of the quantity
theory of money
The essential element of
Keynesian economics is the
idea the macroeconomy can be
in disequilibrium (recession)
for a considerable time.
Keynesian economics
advocates government
intervention to help overcome
the lack of aggregate demand
to reduce unemployment and
increase growth.
Keynesian interpretation of the quantity
theory of money
Keynesianism emphasizes the role that
fiscal policy can play in stabilizing the
economy. In particular Keynesian theory
suggests that higher government spending
in a recession can help the economy recover
quicker.
State intervention is necessary to moderate
the booms and busts in economic activity,
otherwise known as the business cycle.
There are three principal tenets in
the Keynesian description of how
the economy works:
1. Aggregate demand is influenced by many economic decisions
– public and private. Private sector decisions can sometimes lead
to adverse macroeconomic outcomes, such as reduction in
consumer spending during a recession. These market failures
sometimes call for active policies by the government, such as a
fiscal stimulus package.
There are three principal tenets in
the Keynesian description of how
the economy works:
2. Prices, and especially wages, respond slowly to changes in
supply and demand, resulting in periodic shortages and surpluses,
especially of labor.
3. Changes in aggregate demand, whether anticipated or
unanticipated, have their greatest short-run effect on real output
and employment, not on prices. Keynesians believe that, because
prices are somewhat rigid, fluctuations in any component of
spending cause output to change. If government spending
increases, for example, and all other spending components
remain constant, then output will increase.
Keynesian interpretation of the quantity
theory of money
Keynesian economics
dominated economic theory
and policy after World War
II until the 1970s, when
many advanced economies
suffered both inflation and
slow growth, a condition
dubbed “stagflation”
DEFINITION OF 'STAGFLATION'
A condition of slow economic growth and
relatively high unemployment - a time of
stagnation - accompanied by a rise in prices, or
inflation.
Stagflation occurs when the economy isn't growing but prices are. This
happened to a great extent during the 1970s, when world oil prices rose
dramatically, fueling sharp inflation in developed countries. For these
countries, including the U.S., stagnation increased the inflationary effects.
Monetarism
If the money supply is
growing, the economy
will grow, and if
money-supply growth
is accelerating, so will
economic growth.
Monetarism
Monetarism's leading advocate is the economist
Milton Friedman
As a holistic system of economic views, monetarism was
formed in 1960
Monetarism
Monetary policy one of the tools
governments have to affect the
overall performance of the
economy, uses instruments such
as interest rates to adjust the
amount of money in the
economy.
Monetarists believe that the
objectives of monetary policy are
best met by targeting the growth
rate of the money supply.
Monetarism
Monetarism gained
prominence in the
1970s –bringing down
inflation in the United
States and United
Kingdom – and greatly
influenced the U.S.
central bank’s decision to stimulate the economy
during the global recession of 2007–09.
Monetarists principles
Long-run monetary neutrality: an increase in the money stock
would be followed by an increase in the general price level in
the long run, with no effects on real factors such as consumption
or output.
Short-run monetary nonneutrality: an increase in the stock of
money has temporary effects on real output (GDP) and
employment in the short run because wages and prices take time
to adjust.
Monetarists principles
Constant money growth rule: Friedman proposed a fixed monetary rule,
which states that the Fed should be required to target the growth rate of
money equal to the growth rate of real GDP, leaving the price level
unchanged. If the economy is expected to grow at 2 percent in a given
year, the Fed should allow the money supply to increase by 2 percent.
The Fed should be bound to fixed rules in because discretionary power
can destabilize the economy.
Interest rate flexibility: the money growth rule was intended to allow
interest rates, which affect the cost of credit, to be flexible to enable
borrowers and lenders to take account of expected inflation as well as the
variations in real interest rates.
Monetarism weaknesses
It completely ignores the sphere of production
playback - basic and crucial structure that directly
generated value and surplus value.
This area is likened to a "black box" in which internal
processes are automatically adjusted based on market
forces, and therefore not essential. Monetarists do not
exactly represent what is in this box, they care only
what must be obtained from it.