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 Quantity Theory of Money by Milton Friedman

The journal written by Milton Friedman begins with part I regarding "The Formal Theory". This section discusses how the nominal quantity of money versus the quantity of real money affects the economy. In this article it is explained that, nominal money quantity refers to the amount of money in units of a particular currency, while real money quantity refers to the amount of money expressed in the volume of goods and services that can be purchased. with that money. There is no single way to express the quantity of money, because many questions that arise especially regarding nominal money quantities are which assets should be included, whether only currency and coins, or also claims against financial institutions, and which claims should be included. In addition, it is explained that the quantity of real money can be calculated by dividing the quantity of nominal money by the price index, or in terms of the time duration of the flow of goods and services that can be purchased with that money. For example, for a household, the real quantity of money can be expressed in terms of the number of weeks of average household consumption that can be funded by its money balance or, alternatively, in terms of the number of weeks of average income that equals its money balance. The quantity theory of money also asserts that the quantity of real money is more important to money holders than the quantity of nominal money. Because it is assumed that under certain circumstances, people tend to want to hold a fairly certain quantity of real money. However, if the amount of money increases unexpectedly, individuals may end up with a larger cash balance than they would like. Efforts to eliminate these excess cash balances will have important effects, especially in changing prices and income. Although the tautology states that changes in nominal income can be associated with changes in the quantity of money, the quantity theory of money highlights that substantial changes in prices or income are almost always caused by changes in the nominal supply of money, not by changes in demand. 

The next section explains the quantity equation, which tries to formulate the relationship between the flow of money payments and the flow of exchange of goods or services systematically. The equation became a useful analytical tool and took various forms due to the different variable emphasis by quantity theorists. One of the most famous versions is the transaction version formulated by Simon Newcomb and popularized by Irving Fisher. 

Their mathematical equation is: 

MV= PT 

In the equation, an economic transaction is considered a basic event in which one party transfers goods or services or securities to another party and receives money in return. This equation divides payments into two categories, namely those that occur through cash transfers and those that occur through deposit transfers. The components of the equation, such as M and V, are used to describe the volume and velocity of money, while P and T describe the price and quantity of goods or services. This equation also takes into account the speed of circulation of money and has profound implications regarding the distribution of payments among different categories of transactions. 

Next, this article discusses the comparison between two approaches in quantity theory money, namely: transaction approach and income approach. In the transaction approach, any intermediary transactions (for example, purchases from one company by another company) is counted in the total transaction, while in the revenue approach, only the value added clean included. In the transaction approach, money is seen as a means of transfer, whereas in the income approach, money is seen as a tool to save. Difference this is reflected in the definition of money and the emphasis on different variables. Approach transactions highlight the mechanical aspects of the payment process, while the cash balance approach determine the variables that influence the use of money as an asset. These two approaches allows the use of variables emphasized by others, out of consideration portfolios influence transaction costs, while mechanical considerations influence the use of money as an asset in a portfolio. Next, the author shows that The cash balance approach is more in line with Marshall's classic supply and demand tool compared to the transaction approach. It is also explained that several versions of Eq quantities are expressed in terms of the levels of the variables involved, but for the analysis of change monetary, it is often more useful to say it in terms of rate of change. This matter explained further in the equation in Friedman's writings. 

The next section highlights the quantity theory in its cash balance version suggesting an approach analysis of monetary phenomena in three stages: determination of the conditions of the money supply, determination money demand conditions, and reconciliation between supply and demand. In this article it is said that the factors that determine the nominal money supply available to held depending on the monetary system. Meanwhile, for systems that are common to many major countries over the last two centuries, the close determinants of the amount of money can be analyzed below three main headings: money supply, ratio of bank deposits to bank reserves of money circulation, and the ratio of public deposits to holdings of its own currency. Writer too explains that the identity of the money supply is divided by the money supply, deposits are divided by bank reserves, and deposits are divided by the public currency, a fraction of the ratio, namely the ratio M against H, is called the money multiplier, which is a useful summary of the effect of these two deposit ratios. The first ratio, namely, the deposit-reserve ratio is ratios determined by the banking system, which are affected by the established requirements by law or monetary authority. Meanwhile, the next one is the deposit-currency ratio is a ratio determined by the general public. This depends on use relative costs of deposits and currencies for money holders, as well as the relative costs of holding either of both. 

Next, to outline Friedman's perspective on the demand for money, with emphasizes its role as an asset in the broader context of wealth theory or capital. Friedman distinguishes between primary wealth holders, who view money as bgain wealth, and business enterprises, which see money as a producer's commodity. The demand for money by major wealth holders is influenced by several key variables, including total wealth, division of wealth between human and non-human forms, levels phe expected returns on money and other assets, and other variables affect the use of money. This analysis emphasizes the importance of understanding what money does only as a medium of exchange but as a valuable asset that influences behavior and peconomic decision making. In the next section Friedman discusses the challenges and phe considerations involved in combining individual demands for money into broader economic context. Complexity can shift from individual requests to phe aggregate demand, emphasizing the importance of considering distributional effects and implications of the structure of monetary institutions. Friedman also discusses the process of changing function phe per capita demand becomes a function of aggregate demand for the entire economy, and how pChanges in each underlying variable can produce mutual changes balance in other variables, affecting the balance of supply and phe demand for money, which is described using the quantity equation as a framework it works. 

This article also responds to criticism of the lack of equality in the quantity of money takes into account the initial effect of changes in the amount of money, known as the “effect pfirst statement." These critics question whether the source of the increase in the money supply is important, what new money is issued and spent on goods and services looks like directly increasing demand for those goods and services, compared to having none immediate effect if spent on debt or held as buffer stock. This writing acknowledge that first-round effects may vary depending on initial use and distribution of newly issued money. This distinguishes the Keynesian approach which emphasizes pthe importance of the first round effect with a quantity theory approach that provides weight lower on these effects. Next, the final part in point I explores International transmission mechanisms of the quantity theory of money, especially in context phe international trade and monetary adjustments. This section describes the flow mechanism metals, which suggests that excess money in one country can cause prices and a trade deficit, which was then corrected through metal shipments to other countries, adjusting the money supply and prices across countries. This part too introduced the monetary theory of the balance of payments, which emphasized the role of demand domestic nominal and equilibrium prices in determining the adjustment mechanism, which ppotentially replacing metal flows with changes in the fiduciary component of the money stock or pexchange rate adjustment. 

Part II of Friedman's paper focuses on the doubts and debates surrounding quantity theory money, especially in the context of the Great Depression of the 1930s. This section discusses bhow the depression led to questions about the effectiveness of the "easy money" policy, because bCentral banks, including the Federal Reserve, argue that low interest rates are not reduce economic downturn. This skepticism was further strengthened by John's publications Maynard Keynes yang berjudul "The General Theory of Employment, Interest and Money," yang introduces a new perspective on economic fluctuations and depression. Keynes emphasized pimportance of investment and consumption rather than the amount of money, arguing that demand money is unstable in conditions of unemployment. This causes a shift within phe economic thinking, where Keynesian economics is becoming increasingly important because of its focus on fiscal policy and the role of expectations in economic fluctuations. This explanation is also touching the impact of Keynesian policies during the 1950s and 1960s, and what conditions were economics in the 1970s led to a revival of interest in quantity theory. On bThis section explains that Keynes opposed the traditional Quantity Theory of Money. Keynes emphasizes the importance of short-term price and wage stickiness, liquidity preferences, and unemployment balance, suggesting that these factors play an important role in shaping economic outcomes in the short term, differs from the emphasis of Quantity Theory traditionally on the money supply and long-run equilibrium. 

The next section discusses related The Phillips Curve and the Natural Rate Hypothesis, this section criticizes the Philips curve, a concept that suggests an inverse and stable relationship between unemployment and the rate of change in nominal wages, as well as forintroduce Natural Rate Hypothesis (NRH) as a more accurate representation of the dynamics economy. The explanation mentions the weaknesses in the Phillips curve from a theoretical perspective quantity, arguing that the amount of labor demanded and supplied is affected by real wages, not nominal. It is assumed that there is an equilibrium unemployment rate which corresponds to the equilibrium structure of the real wage rate, which is called the "unemployment rate natural." This balance is influenced by various market factors, including market imperfections and information costs. There are arguments stating that in jlong numbers, there is no intrinsic relationship between the rate of change in nominal wages and the level pnunemployment, says that the Phillips curve will become vertical at level pnatural unemployment. The emergence of short-term fluctuations in unemployment can be attributed with temporary changes in inflation expectations, but these effects are not stable over time to time. The emergence of stagflation in the 1970s provides supporting empirical evidence NRH, which causes a shift from the original Phillips curve to the Phillips curve adjusted to expectations. 

Part IV in this paper introduces and discusses rational expectations theory, which developed by John F. Muth in 1961. This theory is important because of its focus on dynamics of economic behavior, especially in the short term, and their implications for stabilization policy. In this topic, the importance of anticipation and how they are mentioned is mentioned formed in determining dynamic responses to changes in money and magnitude other. This emphasizes that economic agents should be treated as if anticipated they fully reflect currently available information about the state of the world and correct theory about the relationship between variables. This perspective has far-reaching implications for the validity of econometric models and the effectiveness of stabilization policies. Rational expectations theory suggests that if monetary policy rules are adopted for the future, it is likely blarge will cause the model for which the rule was developed to no longer function, due to changes in rational expectations and behavior. This theory also implies that any systematic monetary policy will only affect the behavior of nominal quantities and bnot real quantities such as output and employment. The authorities can only influence the flow of events by acting unexpectedly, which in general, making the economy unstable rather than stable. 

Next, part V Empirical Evidence studiesempirical regularity and extensive evidence that supports the relationship between substantial changes in the quantity of money and the price level. This relationship has been observed across various historical periods, geographic locations, and monetary systems, shows a strong empirical basis for the relationship between money supply and inflation. Discussed jalso related to the controversy surrounding the direction of influence between changes in the money supply and rates price, proposes two main interpretations, namely: passive consequences where the increase or phe decline in price can cause a corresponding change in the quantity of money, making pmonetary changes as a passive consequence of price movements. As well as price control, where pNatural changes in the quantity of money can cause changes in prices in the same direction, implies that control over the money supply can influence prices. 

The final section of this paper explains the implications of the Quantity Theory of Money (QTM) for policy economics, emphasizing the importance of controlling the amount of money to manage inflation and deflation. This confirms that QTM suggests that the level of prices or income nominal value can be affected by changes in the amount of money. In particular, it is stated that inflation can be prevented if the amount of money per unit of output does not increase significantly, and Deflation can be prevented if the amount of money per unit of output does not decrease significantly. Corner This perspective was supported by the Commission on the Role of Gold, which concluded that returning the gold standard is not an effective method for dealing with inflation and more prefer no change in a flexible exchange rate system.

Referensi : 

Friedman, M. (1989). Quantity theory of money. In Money (pp. 1-40). London: Palgrave Macmillan UK.