According to the quantity theory of money, the general price level of goods and services is proportional to the money supply in an economy. If the amount of money in an economy doubles, all else equal, 澳洲幸运5官方开奖结果体彩网:price levels will also double. This means that the consumer will pay twice as much for the same amount of goods and services. The increase in price levels will eventually result in a rising 澳洲幸运5官方开奖结果体彩网:inflation level. Essentially, the same forces that influence the supply and demand of any commodity also influence the s♛upply and demand of money.

While this theory was originally formulated by Polish mathematician Nicolaus Copernicus in 1517, it was popularized later by economists Milton Friedman and Anna Schwartz after the publication of their book, "A Monetary History of the United States, 1867-1960," in 1963.

What Is the Quantity Theory of Money?

The quantity theory of money (QTM) assumes that the quantity of money in an economy has a large influence on its level of economic activity. So, a change in the 澳洲幸运5官方开奖结果体彩网:money supply results in either a change in the price levels or a change i🐭n the supply of goods and services, or both. In ad🍨dition, the theory assumes that changes in the money supply are the primary reason for changes in spending.

One implication of these assumptions is that the value of money is determined by the amount of money available in an economy. Thus, an increase in the money supply results in a decrease in the value of money because it also causes the rate of inflation to increase. As inflation rises, 澳洲幸运5官方开奖结果体彩网:purchasing power decreases. When the purchasing 🌺power of a unit of curren⭕cy decreases, it requires more units of currency to buy the same quantity of goods or services.

Throughout the 1970s and 1980s, the quantity theory of money became more relevant as a result of the rise of 澳洲幸运5官方开奖结果体彩网:monetarism. In monetary economics, the chief method of achieving economic stability is through controlling the supply of money. According to monetarism and monetary theory, changes in the money supply are the main forces underpinning all economic activity, so governments should implement policies that influence the money supply as a way of fostering economic growth. Because of its emphasis on the quantity of money determining the value of money, the quantity theory of money is central to the concept of monetarism.

Calculating QTM

The quantity theory of money proposes that the exchange value of money is determined like any other good, with supply and demand. The basic equation for the quantity theory is called 澳洲幸运5官方开奖结果体彩网:The Fisher Equation. In its simplest form, it looks like this:

$\begin{aligned} &(M)(V)=(P)(T)\\ &\textbf{where:}\\ &M=\text{Money Supply}\\ &V=\text{Velocity of circulation (the number of times }\\&\text{money changes hands)}\\ &P=\text{Average Price Level}\\ &T=\text{Volume of transactions of goods and services}\\ \end{aligned}$​(M)(V)=(P)(T)where:M=Money SupplyV=Velocity of circulation&nbs😼p;(the number of times money changes hands)P=Average Price LevelT=Volume of transactions 🐭;of&💎nbsp;goods and services​

Some variants of the quantity theory propose that inflation and 澳洲幸运5官方开奖结果体彩网:deflation occur proportionately to increases or decreases in the supply of money. Empirical evidence has not demonstrated this, and most economists do not hold this view.

A more nuanced version of the qua𓂃ntity theory adds two caveats: 

1. New money has to actually circulate in the economy to cause inflation.
2. Inflation is relative—not absolute.

In other words,ꦿ prices tend to be higher than they otherwise would have been if more dollar bill♔s are involved in economic transactions.

Monetarism

According to monetarists, a rapid increase in the money supply can lead to a rapid increase in inflation. This is because when money growth surpasses the growth of economic output, there is too much money backing too little production of goods and services. In orde💧r to curb a rapid rise in the inflation level, it is imperative that growth in the money supply falls below the growth in economic output.

When monetarists are considering solutions for a staggering economy in need of an increased level of production, some monetarists may recommend an increase in the money supply as a short-term boost. However, the long-term e𓆉ffects of monetary policy are not as preꦍdictable, so many monetarists believe that the money supply should be kept within an acceptable bandwidth to control levels of inflation.

Instead of governments continually adjusting economic policies through government spending and taxation levels, monetarists recommend letting non-inflationary policies, like a gradual reduction of the money supply, lead an economy to 澳洲幸运5官方开奖结果体彩网:full employment.

Keynesianism

Many Keynesian economists remain criti🐎cal of the basic tenets of the quantity theory of money and monetarism, and they challenge the assertion that economic policies that attempt to influence the money supply are the best way to address economic growth.

In the 1930s, Keynes challenged the quantity theory of money, saying that increases in the money supply actually lead to a decrease in the velocity of money in circulation and that 澳洲幸运5官方开奖结果体彩网:real income–the flow of money to the 澳洲幸运5官方开奖结果体彩网:factors of production–increased. Therefore, the velocity of money could change in response to changes in the money supply. In the years since Keynes' made this argument, other economists have proved that Keynes' contention with the quantity theory of money is, in fact, accurate.

Nevertheless, some of the tenets of monetarism became very popular in the 1980s in both the U.S. and the U.K. Leaders in both of these countries, such as Margaret Thatcher and Ronald Reagan, tried to apply the principles of the theory in order to achieve money growth targets for their countries' economies. However, it was revealed over t𓆉ime 🦄that strict adherence to a controlled money supply did not provide a solution for economic slowdowns.

The Bottom Line

The quantity theory of money proposes that an increase in the supply of money decreases the marginal value of money–in other words, when the money supply increases, with all else being equal or ceteris paribus, the buying capacity of one unit of currency decreases. As a way of adjusting for this decrease in money's marginal value, the prices of goods and services rise, leading to inflation. As such, many monetarists propose to control the money supply.

However, Keynesian economics challenges the key assumptions of this theory, proving that controlling the money supply during economic downturns d෴id not, in fact, provide a viable solution.