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 Author Topic: Quantity Theory of Money  (Read 1328 times)
vector76
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 June 19, 2011, 12:52:25 AM

All this deflation talk has got me really annoyed, so let's clear a few things up:

First what I think we can agree on:  If the quantity of money in existence increases, its value relative to goods and services will decrease, and vice versa.

The following statement is NOT true:  If the quantity of money in existence increases by a factor of X (say doubles), then all else being equal, its value relative to goods and services will decrease by a factor of X (value cut in half).

Money is NOT like stock certificates that dilute proportionally.  If Florida had a bumper crop of exactly twice as many oranges as usual, would the price of oranges be exactly half of the usual price?  Of course not.  The price level determined by supply and demand of one good versus another (and money is just a good) are not simply ratios of quantity.

The following statement is also not true and is furthermore STUPID:  If the rate of increase of the quantity of money were to decrease by a factor of X (say 19%) then all else being equal, its value relative to goods and services will increase by a factor of X.

Even if the quantity were to contract, it wouldn't be a simple proportionality, and to confuse a decreasing rate of expansion with a contraction means you don't know up from down.
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evoorhees
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Democracy is the original 51% attack

 June 19, 2011, 01:01:30 AM

The following statement is NOT true:  If the quantity of money in existence increases by a factor of X (say doubles), then all else being equal, its value relative to goods and services will decrease by a factor of X (value cut in half).

Sorry this is nitpicky, but that statement IS true if one really "holds all else equal." By holding all else equal, one is cancelling out price elasticities and time preferences and thus a doubling of quantity would equal a halving of price.

However, in the real world one can never hold all else equal, so it's correct to say that just because money supply doubles, it does NOT mean prices will double. This is because price elasticity curves are not linear, they are curved - and people will thus behave in a predictable, but not linear, pattern.

But I concur with your general sentiment, OP
vector76
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 June 19, 2011, 01:14:44 AM

I would actually agree, the very notion of "holding all else equal" is ill-conceived.  Not because it's impractical but because it's illogical when everything is in relation to everything else and the relationships are what you're insterested in.

So yes, holding all else equal, loosely speaking.
saqwe
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 June 19, 2011, 01:16:43 AM

people will thus behave in a predictable, but not linear, pattern.

people will never behave in a predictable pattern,

that's the old "substantivists vs. formalists"...

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evoorhees
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Democracy is the original 51% attack

 June 19, 2011, 01:29:43 AM

people will never behave in a predictable pattern,

That statement is a contradiction of itself, no? =)

People do behave in predictable patters... however this doesn't mean one can precisely predict individual choices.

Case in point - if I throw a \$10 bill on the ground, we can fairly accurately predict that someone will pick it up. However, we can't quite predict who, or when. When I say predictability, I don't mean 100% accurate... and we don't perfect accuracy to make predictions that are valuable.
hugolp
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 June 19, 2011, 05:49:21 AM

Sorry this is nitpicky, but that statement IS true if one really "holds all else equal." By holding all else equal, one is cancelling out price elasticities and time preferences and thus a doubling of quantity would equal a halving of price.

However, in the real world one can never hold all else equal, so it's correct to say that just because money supply doubles, it does NOT mean prices will double. This is because price elasticity curves are not linear, they are curved - and people will thus behave in a predictable, but not linear, pattern.

But I concur with your general sentiment, OP

And dont forget about how monetary inflation affects investment and the capital structure, thus changing production, that will end up affecting the prices as well.
BubbleBoy
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 June 19, 2011, 08:33:42 AM

Quote
The following statement is also not true and is furthermore STUPID:  If the rate of increase of the quantity of money were to decrease by a factor of X (say 19%) then all else being equal, its value relative to goods and services will increase by a factor of X.

Not as stupid as the mantra of the Bitcoin crowd: If the quantity of goods and services in the economy will grow by X%, then the value of the currency in relation to other currencies and goods will grow by X%.

Quote
(and money is just a good)

Makeshift money are just goods. Money designed for the purpose of being money have infinite supply and are not controlled by politicians.

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kjj
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 June 19, 2011, 09:10:14 AM

Quote
The following statement is also not true and is furthermore STUPID:  If the rate of increase of the quantity of money were to decrease by a factor of X (say 19%) then all else being equal, its value relative to goods and services will increase by a factor of X.

Not as stupid as the mantra of the Bitcoin crowd: If the quantity of goods and services in the economy will grow by X%, then the value of the currency in relation to other currencies and goods will grow by X%.

Quote
(and money is just a good)

Makeshift money are just goods. Money designed for the purpose of being money have infinite supply and are not controlled by politicians.

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