The quantity theory of money: a new restatement

Tim Congdon ()

Chapter 1 in Money and Inflation at the Time of Covid, 2025, pp 26-87 from Edward Elgar Publishing

Abstract: Chapter 1 starts with and discusses the equation of exchange (M.V = P.T), but says it is an unsatisfactory account of the determination of the price level because of the ambiguity of its terms. Instead, the preferred version of the quantity theory of money – which could be called “broad-money monetarism” – recalls theorizing by Marshall and Keynes in interwar Cambridge. It pivots on a key proposition, that the equilibrium values of national income and wealth are determined by the interaction between the quantity of money, broadly defined, and private sector non-bank agents’ money-holding preferences. The phrase “the quantity of money” must be understood to include nearly all bank deposits, with its value being dominated by such deposits. By contrast, narrow money and the monetary base are better seen as being determined by national income. The quantity of money is in turn to be interpreted as the result of the extension of credit by the banking system, subject to solvency and liquidity constraints. Alternative accounts of national income determination – such as those appealing to “endogenous money” or bank credit – are said to be misleading and wrong. The proportionality postulate – that increases in broad money and nominal national income are equi-proportionate in equilibrium – lies at the heart of the transmission mechanism of monetary policy. The power of broad money in national income determination comes largely from its relevance to the determination of the values of variable-income assets, such as equities and houses. Discussion of the transmission mechanism concludes that changes in the value of these assets motivate much of the cyclical fluctuations in the economy. The book as a whole could be characterized as “a manifesto for broad-money monetarism”.

Keywords: M.V = P.T; Equation of exchange; Irving Fisher; Chicago School; Demand for money; General Theory (search for similar items in EconPapers)
Date: 2025
ISBN: 9781035328963
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