Fisher's version of quantity theory of money

Welcome to Zeegurujii

In this post we are trying toExplain critically Fisher's version of quantity theory of money

Introduction

The quantity theory of money is an economic theory that links changes in the money supply to changes in the price level in an economy. This theory has evolved over time, and one of the most famous versions is the one proposed by Irving Fisher. In this essay, we will critically examine Fisher's version of the quantity theory of money and its implications.

Overview of Fisher's version of the quantity theory of money

Fisher's version of the quantity theory of money can be expressed in the equation of exchange, which is as follows:

MV = PQ

Where M is the money supply, V is the velocity of money, P is the price level, and Q is the level of real output. According to Fisher, the equation of exchange is an identity that always holds, regardless of the state of the economy. He believed that changes in any one of the variables in the equation would affect the other variables. For example, an increase in the money supply (M) would lead to an increase in the price level (P) if the velocity of money (V) and the level of real output (Q) remained constant.

Fisher argued that the velocity of money was relatively stable in the short run, meaning that changes in the money supply would have a proportional effect on the price level. He also believed that the level of real output was determined by factors such as technology and the availability of factors of production, and therefore did not change much in the short run.

Criticism of Fisher's version of the quantity theory of money

Fisher's version of the quantity theory of money has been subject to criticism from several quarters. One of the main criticisms is that the velocity of money is not stable in the short run, as Fisher assumed. Empirical evidence suggests that the velocity of money can be quite volatile, and can change in response to changes in interest rates, changes in credit availability, and changes in economic conditions more generally.

Another criticism of Fisher's version of the quantity theory of money is that it assumes that the level of real output is constant in the short run. However, this assumption is not always valid, as changes in the money supply can affect the level of real output through their impact on investment and consumption.

Fisher's version of the quantity theory of money also assumes that there is a one-to-one relationship between changes in the money supply and changes in the price level. However, this assumption may not hold true if there are changes in the velocity of money or in the level of real output.

Furthermore, Fisher's version of the quantity theory of money assumes that the money supply is exogenous, meaning that it is determined outside the economy. However, in reality, the money supply is often endogenous, meaning that it is determined by economic conditions within the economy.

Another criticism of Fisher's version of the quantity theory of money is that it assumes that there is no relationship between the money supply and interest rates. However, empirical evidence suggests that changes in the money supply can affect interest rates, which in turn can affect consumption and investment.

Finally, Fisher's version of the quantity theory of money assumes that changes in the money supply are always neutral in the long run, meaning that they do not affect real economic variables such as output and employment. However, this assumption has been challenged by several theories, including the Keynesian theory of the business cycle.

Conclusion

In conclusion, Fisher's version of the quantity theory of money has been subject to several criticisms, mainly relating to its assumptions about the stability of the velocity of money, the constancy of the level of real output, and the exogeneity of the money supply. While the theory provides a useful framework for understanding the relationship between changes in the money supply and changes in the price level, it is important to recognize its limitations and to consider alternative theories