Milton Friedman is, without a doubt, one of the most influential economists of all times. Born on 31 July 1912, in New York, he graduated at the University of Chicago and later he served there as Professor of Economics. His research in the field of economics brought him a number of awards,including the Nobel Prize in Economics in 1976,"'for his achievements in the fields of consumption analysis, monetary history and theory and for his demonstration of the complexity of stabilization policyMilton Friedman died on 16 November 2006. January 29th 2007, was declared as Milton Friedman day, honoring his achievements and his influence over the modern economic policy.
Milton Friedman's scholarly contributions are numerous, but the most important are: the critique of the Phillips curve and the introduction of the natural rate of unemployment; the permanent income hypothesis; the stable link between inflation and money supply; the monetarist school of economic thought, and many more, including the revival of the quantity theory of money, the main topic of this paper.
Table of Contents
1 Introduction
2 Monetarism
3 "Classical" Quantity Theory of Money
4 Liquidity Preference Theory
5 The Revival of the Quantity Theory of Money
6 Critics
Research Objective and Core Topics
This paper examines the evolution of monetary theory by analyzing the contributions of Milton Friedman, specifically his revival of the quantity theory of money in relation to the work of Irving Fisher and the challenges posed by Keynesian liquidity preference theory.
- The historical development of Monetarism and its transmission mechanisms.
- Fisher's "Classical" quantity theory of money and the assumption of constant velocity.
- Keynes's Liquidity Preference Theory and the role of interest rates.
- Friedman's reformulated demand for money function and permanent income hypothesis.
- Critical perspectives on the endogenous nature of money supply and governmental intervention.
Excerpt from the Book
5 The Revival of the Quantity Theory of Money
In 1956, Milton Friedman developed a theory of the demand for money, which, although referring to Fisher, has a lot more in common with Keynes’s way of analyzing the demand for money. Like Keynes, Milton Friedman asked the question of why people choose to hold money, but instead of examining motives, he stated that the demand for money must be influenced by the same factors that influence the demand for any other asset. Therefore, Friedman expressed the demand for money as a function, consisting of some elements:
Md / P = f(Yp, rb − rm, re − rm, πe − rm)
where Md/P – the demand for real money balances, Yp – permanent income (expected average long-run income), rm – expected return on money, rb − rm – expected return on bonds relative to money, re − rm – expected return on equity relative to money, πe − rm – expected inflation rate relative to money.
Logically, when people are wealthier, their demand for assets, and in this case particularly, for money rises. Therefore, there is a positive link between the money demand and the Friedman’s concept of wealth – the permanent income. Permanent income, instead of the regular one, was chosen by Friedman, because it has much smaller short–run fluctuations and hence, the demand for money will not fluctuate much.
Summary of Chapters
1 Introduction: Provides a biographical overview of Milton Friedman and outlines his primary scholarly contributions to modern economic policy.
2 Monetarism: Defines the term monetarism and outlines its core features, including transmission mechanisms and the natural rate of unemployment hypothesis.
3 "Classical" Quantity Theory of Money: Explains Irving Fisher’s equation of exchange and the classical assumption that velocity remains constant in the short run.
4 Liquidity Preference Theory: Discusses Keynes’s alternative theory based on transaction, precautionary, and speculative motives for holding money.
5 The Revival of the Quantity Theory of Money: Details Friedman’s modern reformulation of money demand, incorporating permanent income and various asset returns.
6 Critics: Summarizes counterarguments regarding the endogeneity of money supply and the necessity of state intervention in financial markets.
Keywords
Milton Friedman, Monetarism, Quantity theory of money, Irving Fisher, John Maynard Keynes, Liquidity preference, Velocity of money, Nominal income, Permanent income, Money supply, Demand for money, Inflation, Monetary policy, Interest rates, Macroeconomics.
Frequently Asked Questions
What is the primary focus of this paper?
The paper focuses on Milton Friedman's intellectual contribution to the revival of the quantity theory of money within the context of macroeconomics.
What are the central themes discussed in this text?
The central themes include the historical transition from classical monetary theories to Monetarism, the impact of velocity assumptions, and the comparative analysis of Friedman's and Keynes's demand-for-money functions.
What is the ultimate goal of the research?
The goal is to explain how Friedman adapted the classical quantity theory into a modern framework that remains relevant for understanding the relationship between money supply and aggregate spending.
Which economic methodology is employed?
The paper utilizes a comparative analytical method, evaluating mathematical formulations of exchange equations and money demand functions proposed by different economic schools of thought.
What is covered in the main body of the work?
The main body covers the theoretical frameworks of Fisher, Keynes, and Friedman, followed by a critique of the monetarist approach.
Which keywords best characterize this publication?
Key terms include Monetarism, Quantity Theory of Money, Liquidity Preference, Permanent Income, and Money Demand.
How does Friedman's theory differ from Fisher's constant velocity assumption?
Friedman does not assume velocity is constant; however, he argues that the money demand function is highly stable and predictable, leading to similar conclusions regarding money's importance.
What role does permanent income play in Friedman's model?
Permanent income is used as a proxy for wealth because it exhibits smaller short-run fluctuations than regular income, providing a more stable basis for predicting money demand.
How does the concept of "endogenous money" challenge the author's subject?
Critics argue that because banks create money through loans, the supply is endogenous rather than exogenous, limiting the central bank's ability to control fluctuations, which contradicts strict monetarist principles.
- Quote paper
- Georgi Georgiev (Author), 2006, Milton Friedmans revival of the quantity theory of money, Munich, GRIN Verlag, https://www.grin.com/document/72981
