NUMISMATIC

* MAIN IDEAS

- “The common theme between our framework and the older literature is that the money stock is a balance sheet aggregate of the financial sector. Our approach suggests that broader balance sheet aggregates such as total assets and leverage are the relevant financial intermediary variables to incorporate into macroeconomic analysis” (Adrian & Shin 2010, p.2-3).

* BANK

- Fisher (1911) and Keynes (1936) “weakened the sharp distinction previously observed

between ‘money proper’ and ‘money substitutes’ such as bank deposits. This development

gave rise to a definition of money as the aggregate of all generally accepted media of

exchange, including (some financial liabilities of commercial banks, which has created on

ongoing debate about whether the ability of thebankig system to creat media of exchange is

constrained by the supply of bank reserves (implying a key role for the cetral bank ) or by

the demand for deposits (suggesting ‘free banking”

- Goodhart (1984) describes the textbook money multiplier story with RRR as ‘absolute

baloney’. (His comments on it in Goodhart 1994, p.1424-6) Why? Because “It is extremely

unlikely that any central bank would allow a fundamentally sound financial institution under

its jurisdiction to fail simply because it lacked sufficient liquid assets during a run on its

deposits” (Dalziel 2001, p.32).

- “… modern analysis of the ultimate constraint faced by banks focuses on the risk of bad

debts” not on the bank-run (Dalziel 2001, p.32).

- Classical economists’ adherence to laissez-faire principles had an exception, i.e. note

issuance. Yet the principles were still applied to deposit banking and credit markets (Laidler

1991, p.39).

* BANKNOTES

- “…the banknote, a ‘convertible currency of credit.’ Here the illusion that the note-holder

lends capital to the bank rather than the ultimate borrower is further reinforced by the bank’s

promise to repay the principal on demand in money proper. Even more, because of

convertibility, note-holders are free to imagine that they have not lend capital at all, that the

note they hold is itself capital, that the banknote is in fact money not credit. But all this

imagining does not change the fact that the banknote is not money but only a token of the

bank’s credit. Although the banknote may in all practical respects function exactly as money,

it remains distinct from money on account of the mechanism of its supply; the banknote

enters circulation as the bank of issue discounts some capital loan.” (Merhling 1996: 334)

This is different from Wray’s notion of money as naturally credit money; “In

reality, credit money is the ‘natural’ form of money: money as a privately issued

IOU.” (Wray 1996: 445)

- Marx: “The credit given by a banker may assume various forms, such as bills of exchange

on other banks, cheques on them, credit accounts of the same kind, and finally, if the bank is

entitled to issue notes — bank-notes of the bank itself. A bank-note is nothing but a draft

upon a banker, payable at any time to the bearer, and given by the banker in place of private

drafts. This last form of credit appears particularly important and striking to the layman, first,

because this form of credit-money breaks out of the confines of mere commercial circulation

into general circulation, and serves there as money; and because in most countries the

principal banks issuing notes, being a peculiar mixture of national and private banks, actually

have the national credit to back them, and their notes are more or less legal tender; because it

is apparent here that the banker deals in credit itself, a bank-note being merely a circulating

token of credit. But the banker also has to do with credit in all its other forms, even when he

advances the cash money deposited with him. In fact, a bank-note simply represents the coin

of wholesale trade, and it is always the deposit which carries the most weight with banks”

(KIII,25)

- Wray provides a different story of development of banking from the orthodox one. He

argues that bank first emerged not as deposit banks operating as intermediaries from

‘depositors’ to ‘borrowers’ but as banks making ‘loans’ by issuing banknotes; “that is, they

financed their position in assets by creating liabilities.” (Wray 1996: 446)

- Bank deposit: entirely ideal claim on banks (Lapavitsas 1991: 314)

- Banknotes: a promise to pay by a bank. (Lapavitsas 1991: 315)

“~~~ Bank-notes, on the contrary, are never issued but on loan, and an equal amount of notes

must be returned into the bank whenever the loan becomes due. Bank-notes never, therefore,

can clog the market by their redundance, …. [The] reflux and the issue will, in the long run,

always balance each other.” (Fullarton cited in Viner 1937, 237)

- “Notes are issued based on commercial loans [i.e. trade credit] which arise only from the

needs to accommodate certain commodity trade” (Likitkijsomboon 2005, p.165).

- Decreasing role of banknote substituted by depository money: Lapavitsas 1991, p.315-16.

Especially: “Precisely this development allows the supersession of the banknote as the chief

means of payment in advanced capitalism. Given the existence of systematic hoard

collection, it is possible to transfer money ideally and without the passage of bank promises

to pay. Instead payments can be made by transferring the claims on banks directly as entries

in different bank accounts. The immediate corollary of this is that banknotes, indeed all

circulating money, are displaced from the sphere of exchange. In terms of the functions of

money, the circulating functions are diminished and the hoarding function becomes

dominant.”

- As for the function of means of payment, banknotes have been replaced by the deposit

mechanism. They have been reduced to the function of simple means of circulation,

“facilitating primarily the exchange of commodities in the area of expenditure of private

income…… Banknotes enter exchange according to how money is demanded for purposes of

income realization; hence, their entry teds to be demand-determined. Furthermore, the reflux

tends to take place as hoards out of private income are created, and not as debts to banks are

paid…. The upshot of the rise of depository credit money is to attenuate the links of the

modern banknote with the advance and repayment of credit” (Lapavitsas 1991, p.317).

- See Fisher (1911, p.35)

- “A bank note is essentially to be regarded as a kind of deposit-receipt or cheque, which

passes through a number of hands before it is presented to the bank either for redemption or

as a deposit” (Wicksell 1898, p.69).

- “The essential characteristic of notes consists in their taking the place of coin in the cash reserves of private individuals and of those banks which do not themselves issue notes” (Wicksell 1898, p.70).

* BILLS OF EXCHANGE

- The most typical private debt certificate

- “It is only on account of their relative inconvenience, and for similar reasons (taxation of

bills, etc.), that this original use of bills has gradually become less prevalent since banking

was perfected. Bills no longer pass from hand to hand so much as formerly; they are

discounted at some bank, and usually then remain in the bank's portfolio until they become

due (at any rate so far as domestic bills are concerned). In other words, the employment of a

bill of exchange has become purely a form of lending money” (Wicksell 1898, p.64). See this

page for more about bills of exchange.

-

* CENTRAL BANK

- The operations between central bank and treasury: See the references in Fiebiger et al. 2012,

p.19

*COST OF PRODUCTION THEORY

- Smith criticizes Tooke and Newmark’s explanation of the effect of 1850s discovery of gold

as contradicting Tooke’s Banking School position (p.9). Actually, their view is very similar to

Hume’s SR non-neutrality of money and Fisher’s transition period explanation. That is,

according to Tooke and Newmark: ‘Mg increase by gold discovery -> increase in expenditure

and income by increase reserves and lowering interest rate (p.7) -> increase in demand ->

increase in price’. This is nothing but QT’s SR perspective!!! Smith demonstrates the

traditional Classical view on the topic as: ‘Mg increase by gold discovery -> decrease in the

cost of production of gold through a decrease of the cost of production of the least productive

mine -> decrease in the value of gold -> increase of general level of prices -> increase in the

demand for money’. “From the standpoint of the classical approach, it is difficult to conceive

how the additional output of gold was absorbed into monetary circulation in absence of a

prior causal reduction in its cost of production which directly raised the general price level”

(p.9).

* CREDIT MONEY (CREDIT SYSTEM)

- Marx’s vs. PK

- Marx’s emphasis on hoards as a material base for the development of credit system and

the contemporary case of ex nihilo issuance of bank liabilities (Are they contradictory?):

- PK’s credit view of money is based on Keynes Post-GT articles (1937a, 1937b, 1938,

1939): “Keynes observed that an important role of the banking system is to extend credit to

finance investment goods production in advance of the saving that is necessarily generated

through Kahn’s (1930) multiplier process” (Dalziel 1999-2000, p.

- Dos Santos (2012, p.15-16)’s explanation is not satisfactory. He gives two aspects: i)

Excess credit money will reflux back to the initial issuers or the demand for credit will

decrease, ii) “Competitive capitalist accumulation systematically requires the maintenance of

money holdings as part of the social portfolio of financial and real assets. It simultaneously

generates a systematic demand for credit, if capitalists are to embark on growing scales of

investment. The credit system dynamically mediates between these two needs by creating its

own forms of money and advancing them to those demanding credit.”

-> As for the first, besides that how the two can be reconciled is unclear, it relies on the

law of reflux, whose validity is to be questioned, and moreover, the failure of reflux of excess

money may not necessarily decrease the demand for credit money. As for the second, the

question still remains that why the money holdings need to be maintained when the credit

system can create its own forms of money out of nothing.

- Lapavitsas’s explanation of Marx’s credit theory (LS 2000, p.321-22; for instance, “..the

credit system is a set of social mechanisms aimed at collecting loanable money capital and

channeling it back toward real accumulation” which is exactly the same with mainstream

loanable funds theory) directly contradicts PK’s theory. It seems to me that no Marxist writers

who are sensitive to this stark difference have directly faced this point to provide a

satisfactory discussion on how to reconcile the two. This is also true for Lapavitsas.

- Lapavitsas and Saad-Filho (2000, p.329) clearly support loanable funds theory when they

note “Banking credit involves collecting and advancing loanable capital, and results in

creation of credit money as a by-product. The sources of loanable capital comprise idle

money created in the turnover of the total social capital.”

=> I think ‘loanable funds theory vs. PK’s credit creation ex nihilo’ should not be

understood as either or. Assigning the former a dominant position implies an approach where

credit creation out of nothing is logically possible but is not unlimited as PKs think.

Lapavitsas’s position is this which I agree with. “PKs are right to stress that the supply of

credit money is credit-driven, but wrong to claim that the supply of credit itself responds

passively to its demand” (LS 2000, p.329). LS continue to note limits facing bank’s ability to

issue their liabilities.

- “…the supply of credit money is not produced by a production function relationship, but

rather as a by-product of making loans” (Moore 1998, p.8). This admits a possibility of

money supply demand discrepancy and differs from MCT. Dalziel adds “an expression is

obtained for the nominal money stock as the by-product of the demand for current investment

finance and the retirement of previous investment finance by firms” (Dalziel 1999-2000,

p.236).

- “Credit itself loosens the bond between money and commodities, just as it slackens the link

between income and expenditure.” (de Brunhoff 1978: 47)

- “Broadly speaking, the credit system is a mechanism for the internal reallocation of spare

funds among industrial and commercial capitalists; as such, it can increase the efficiency of

the process of capital accumulation, and enlarge its scope.” (Lapavitsas & Saad-Filho 2000:

321-2)

- Different forms of credit: see Wray (2007: 3)

- Pay attention to the relation between credit money and means of payment: credit money

emerges due to money’s function of means of payment. Credit money issued from the credit-

debt relation is destroyed when ‘real’ money (possessing intrinsic value) comes in as means

of paying settling the credit-debt relation.

- “rapid turnaround from creditism to metalism” (Marx; reqouted from Chae 1999:

301)

- Steuart explains the “difference between ‘real’ (metallic) and ‘symbolic’ money

[credit money] is that the former definitely settles transactions, while the latter, since

it is essentially a promise to pay, does not.” (Itoh & Lapavitsas 1999: 17)

- One of the elements that make it difficult to measure the quantity of credit money and

control it is the relative autonomy of commercial credit from banking credit and of

credit of private banks from credit of central bank. Itoh and Lapavitsas (1999: 102)

explain the autonomy as “deeply rooted in these informational relations, [i.e.

information asymmetry among these agents which is a typical feature of private

market economy.]”

- “Virtually all heterodox economists insist that money should be seen as credit money,

which simultaneously involves four balance sheet entries. Credit money (say, a bank demand

deposit) is an IOU of the issuer (the bank), offset by a loan that is held as an asset. The loan,

in turn, represents an IOU of the borrower, while the credit money is held as an asset by a

depositor. On this view, money is neither a commodity (such as coined gold), nor is it “fiat”

(an asset without a matching liability). In the first subsection, I will briefly discuss the

“creditary” nature of money. This is not (or should not be) controversial among heterodox

economists. In the second subsection, I address the nature of the money issued by the state.

Some heterodox economists have inconsistently accepted the orthodox characterization of the

state’s money as a “fiat” money, with a nominal value established by state proclamation (or

legal tender laws). It is often not recognized that even the state’s money is an IOU.” (Wray

2007: 2)

- PK’s thesis that loans make deposits: “It is worth noting that in all cases …. ‘deposit

banking develops after the public has become accustomed to using credit money. For

example, banks in Western Europe operated primarily on the basis of banknotes until the

nineteenth century, rather than as deposit banks. Knapp (1924) argues that deposit banking

cannot evolve until the public has developed the ‘banking habit’, that is, that habit of

accepting banknotes. Thus, rather than acting as intermediaries from ‘depositors’ to

‘borrowers’, early banks make ‘loans’ by issuing banknotes; that is, they financed their

position in assets by creating liabilities.

- Instability of credit money: See Grundrisse 131

- Is credit money – such as banknotes and bank deposits – different from money proper?

-> In Marx, yes, I think. “The private banknote is, after all, a mere private promise to pay by

a bank, the creditworthiness of which cannot be immediately general” (Lapavitsas 1991,

p.312). See Lapavitsas (1991, p.313; in green).

<Quantity of credit money>

- “Thornton stressed that the price at which monetary credit is traded, i.e. the rate of

interest, is critical for determination of the quantity of credit money.” (Lapavitsas 2000: 649)

- Does credit money have only means of payment as its function excluding function of

means of exchange or hoarding?

- Credit money is distinguished from money-proper (as Lapavitsas 1991 does), but in what

sense? How are they distinguished when credit money plays all three functions of money?

HW: In that the basis of credit money’s acceptability (or value), which is the creditworthiness

of, at most, the state, or the world government, which is non-existent, is much weaker than

that of money-proper, i.e. metallic money.

- “Banks more often lend rights to draw (or deposit rights) than actual cash, partly because of

the greater convenience to borrowers, and partly because the banks wish to keep their cash

reserves large, in order to meet large or unexpected demands” (Fisher 1911, p.35).

- When lending, bank give the borrower either the right to draw deposits or banknotes. So in

the simplest case, banks make loans in the form of cash, banknotes, or deposit accounts.

(Fisher 1911, p.35, 38).

- Mill (1871) recognized so well the presence of other assets in the circulating medium and

the role of credit in determining prices (Laidler 1991, p.17).

- “The debts themselves can be, and usually were, private debts, but in principle, social

institutions could also step in and supply such instruments” (Arnon 2010, p.60).

+ Various methods of creating credit money, or credit instrument

-

* CURRENCY

- “If we confine our attention to present and normal conditions, and to those means of exchangewhich either are money or most nearly approximate it, we shall find that money itself belongs to a general class of property rights which we may call "currency" or "circulating media." Currency includes any type of property right which, whether generally acceptable or not, does actually, for its chief purpose and use, serve as a means of exchange. Circulating media are of two chief classes: (1) money; (2) bank deposits,” (Fisher 1911).

* CONVERTIBILITY, INCONVERTIBLE MONEY

- Laidler (1991, p.9-10) presents the same idea of mine as for the inconvertible monetary

system; there he says that in the classical period, inconvertibility was an exception and

commodity money based system was a norm. Then how should we understand the classical

economists’ adherence to the quantity theory of money when it is the case that, as Glasner

(1985) and others have shown, the QTM holds only in the inconvertible monetary system?

This can be explained from their peculiar definition of money and value, i.e. money as a mere

means of exchange and value as a fictitious value.

- Historically, inconvertibility in Marx’s day in 19 th century was only temporary, exceptional

event. But this was no longer the case since the first world war.

- “For Marx, convertibility prevents inflation not by the risk of gold drains and the

international specie-flow- mechanism as in Ricardo’s theory, but by the law of reflux: namely,

that notes are issued only when they are needed by capitalists.” (Likitkijsomboon 2005: 163)

- “Marx uses the general equivalent theory of money to analyze several outstanding problems

in monetary theory of the nineteenth century … But Marx’s treatment of the problem of paper

money issued by the State without any guarantee of convertibility into gold at fixed rate is of

considerable interest.” (Foley 1986, 25)

- “If the State issues more paper than can be absorbed by circulation, agents will try to get rid

of the excess paper money by using it to buy gold. This attempt creates a market for the

exchange of paper money and gold and a price in that market, usually called the discount of

paper against gold …. The excess issue of paper money by the State raises the prices of

commodities in terms of paper money through the mechanisms of the discount between paper

and gold.” (Foley 1986, 26; emphasis in the original.)

- As above, Foley admits the QTM result in case of paper money in Marx. But he points out

how Marx’s analysis and its result are different from QTM: i) In QTM, Q -> P holds for both

paper money and gold money while in Marx it applies only to paper money not to gold; ii)

QTM explains the mechanism of the rise in prices as lying in “excess demand in the market

for all commodities as agents try to spend excess money holdings.” Yet in Marx the

mechanism has nothing to do with such excess demand “because it works through the market

in which the paper money exchanges against gold; thus the change in paper money prices are

merely a reflection of the discount between paper and gold.” (Foley 1986, 27)

=> Both i) and ii) hold in Moseley’s approach. Then what is the point of Foley’s critique of

the latter? -> “This analysis cannot, however, be the basis of an explanation of the value of

money in contemporary monetary systems where there is no money commodity. The essence

of Marx’s treatment of this problem is that gold continues to function as the general

equivalent commodity when the paper money issued. In contemporary monetary systems

there is no comparable money commodity against which paper money can be discounted.”

(Foley 1986, 27)

=> This is a very strong critique of Moseley & Saros’ approach. What would be their answer?

Are their approach based on insisting the commodity theory of money still in the

contemporary non-commodity money regime?

- “…currency inconvertibility may also lead to extra money inflation instead or in spite of the

crisis, because it reduces the constraints imposed by convertibility upon speculative booms,

and because inconvertibility allows the mismatch between the structure of supply and the

composition of demand to increase sharply, which can be an important cause of the crisis”

(Saad-Filho 2002, p.351).

- Saad-Filho (2002, p.351) comments that inconvertibility may smooth out the cycles,

however it may lead to permanent inflation. See p.352 for the references for this statement.

- “In 1870, specie convertibility, and in Britain in particular gold convertibility, was regarded

as a sine quo non of sound monetary management” (Laidler 1991, p.42).

* CYCLE

- In pointing out that classical economists explained cycles as caused by financial fluctuation

and very gradually and slowly realized that real factors also contribute to cycle, Laidler

(1991, p .45) mentions that this is in contrast to Marx, for whom cycle was real cycle and

who ‘barely discussed price fluctuation and financial factors”. This is deadly wrong.

- Output fluctuation was systematically integrated into theories of cycle only by Marshall in

1879.

- While today’s economics has ‘business cycle’ theory which deals with fluctuations of real

variables, classical economics had ‘credit cycle’ theory dealing with those of the volume of

bank credit, money supply, interest rates and prices (Laidler 1991, p.41)

* ENDOGENOUS MONEY

- “the point made by endogenous money theorists is that we don’t live in a fiat-money

system, but in a credit-money system which has had a relatively small and subservient

fiat money system tacked onto it …. Calling our current financial system a “fiat money”

or “fractional reserve banking system” is akin to the blind man who classified an

elephant as a snake, because he felt its trunk. We live in a credit money system with a

fiat money subsystem that has some independence, but certainly doesn’t rule the monetary

roost—far from it” (Keen 2009).

- “This feature of monetary systems was already well recognised by Wicksell: “No matter

what amount of money may be demanded from the banks, that is the amount which they are

in a position to lend. . . The ‘supply of money’ is thus furnished by the demand itself.”

(Wicksell 1898 [1936, p.110-11]).

- Rousseas’ comments: “Keynes did not assume a perfectly elastic money supply, for if the

money supply is automatically endogenous all along the line, then the finance motive

becomes a trivially ephemeral and unimportant novelty” (Rousseas 1986, p.44). “And to

argue that the central bank fully accommodates any and all increases in the demand for

money not only overstates the case but eliminates banks as a barrier to increased investment.

If blame is to be apportioned properly, most of it should go to central banks captured by

monetarist counterrevolutionaries. Money does matter in the short run and it does affect the

level of investment, and hence output and employment, when, on a mistaken notion of the

cause of inflation, its quantity, is severely restricted” (45).

* FRIEDMAN

- In Friedman (1985), the position seems to have converted from the money demand

approach to QT to the original exogenous money stock approach (Rogers 1989, p.8).

- Friedman admits that Defining V as PY/M is not exactly correct but just for a convenience

due to a difficulty of measuring V, which should have independent determinants. In such

definition, V is treated as a residual or ‘statistical discrepancy’ that renders the equation

correct (Friedman 1970, p.198).

- Comparison between different versions of QT

Fisherian transaction

approach

Income approach Cambridge cash-

balances approach

Important

aspect of money

General purchasing

power; Money is

transferred; various

institutions and

technicalities of

payment is

emphasized.

Temporal abode of

purchasing power:

Money is held; Money

as asset;

Important

function of

money

Means of exchange

and payment

Store of value (Both

demand and time

deposits are included

in money

- Each of these does not exclude the other.

- Cash-balances approach fits better to Marshallian demand and supply framework.

+ Keynes’ approach

- Replaced the equation of exchange identity with income identity with stable

consumption propensity.

- Three points of Keynes in refuting QT (206).

- The first point proved false by the fact that Keynes ignored the wealth variable in

consumption function.

- On Keynes: p.207-

- Keynesians: M -> i -> k -> y (real income). For Keynes on this mechanism, there is

something unclear in Friedman’s discussion. In one place he says that Keynes actually took

changes in M being entirely reflected in change in k even though Keynes also made a general

argument that in the SR change in M would be lead to changes in k or y or both. In the other

place Friedman says that for Keynes k embodies the liquidity preference which depends on

the interest rate and that the interest rate is also a price variable and thus varies very slowly.

Then in Friedman’s discussion, Keynes’s mechanism that leads changes in M to changes in k

is missing. Keynesian some decades of Keynes no longer consider the interest rate as

institutional data and attribute more significance to the quantity of money than Keynes did

(Friedman 1970, p.211). What this means is this: For Keynes in GT, i is determined not by

the quantity of money (as according to the loanable funds theory) but by the liquidity

preference, which in turn is determined by various objective and subjective elements of the

economy and investors.

- Friedman defines the Keynesian approach as conceiving prices as institutional data;

traditional Marxian theory is on the same page with the Keynesian theory in that it also

explains prices to be determined from the real sides of the economy, not from the monetary

sides.

* DEPOSIT

- “For Marx and Cannan bank deposits are sums of money lent to banks by depositors. They

held the same view as that of the banker Walter Leaf in his book Banking (1926, p.102): The

banks can lend no more than they can borrow?in fact not nearly so much. If anyone in the

deposit banking system can be called a “creator of credit” it is the depositor: for the banks are

strictly limited in their lending operations by the amount which the depositor thinks fit to

leave with them. Opposed to this is a theory described by Cannon as “the mystical school of

banking theorists”, which holds that the bulk of bank deposits are “created” by the banks

themselves.” (Hardcastle 1983)

- Two types of deposits: i) people put their money in the bank (money that is lent to

the bank), ii) money that is lent by bank to people

Is it right to include both as deposit as most monetary economists do? Wouldn’t it

involve double counting?

“Deposits are created in the act of bank borrowing, as banks credit the loan

proceeds to the borrower’s account.” (Moore 1996: 91) -> I think the

horizontalism vs. structuralism comes down the creditworthiness of the issuer of

private bank money. If it is strong and stable borrowers would be content with

deposit money for the loan; otherwise, they will require the bank for cash in

which case loans and deposits will not equal to each other. In this sense,

horizontalism is based on an assumption that private bank money perfectly

performs various functions of money.

“depository money is credit money generated by the advance of banking credit”

(Lapavitsas 1991: 316) confusing……

- “The notes now circulating came into existence as the results of loans from the banks to

entrepreneurs, who pay out wages in advance of receiving the proceeds of selling the goods

which the workers produce” (Robinson 1956, p.226; requoted from Rossi 2001, p.115, fn.32).

“Bank notes are in fact recorded as a deposit in the central bank’s balance sheet

(references…). There is therefore identity between the stock of money and the sum total of

bank deposits existing, at any point in time, in the economy as a whole. The statistical

definition of money (M0~M4, etc.) focuses indeed on these stock-magnitudes” (Rossi 2001,

p.116, fn.32).

- “One has in fact always to remember that paper money is just the representation of a bank

deposit, and that the transmission of bank notes between agents implies the transfer of the

corresponding drawing right (purchasing power) over current production, recorded within the

banking system” (Rossi 2001, p.107). “..every bank-note corresponds to a book-entry of

which it is the mere “image”” (Cencini 1988, p.58; re-quoted from Rossi 2001, p.107). “…

any payment within the national economy is tautologically a monetary transaction carried out

through the bookkeeping records of the domestic banking system” (Rossi 2001, p.107).

- “Recall that bank notes and coins are the material representation of a bank deposit, to wit, a

deposit in central bank money” (Rossi 2001, p.158, fn.54).

- In Lapavitsas (1991) where a very good Marxist analysis of credit money – banknote and

deposit – is presented, the causal relation between bank credit (loan) and deposit is still

unclear. For instance, in one place it is stated “money deposits are claims against banks which

are generated as money hoards are concentrated and lent out” (315); while in the other

“depository money is credit money generated by the advance of banking credit” (316). From

these and others it is unclear whether Lapavitsas identifies deposits with hoards, in which

case it follows that deposits makes loans, or whether they are conceived as different based on

the proposition that loans – i.e. bank’s lending out hoarded money – makes deposits.

Lapavitsas seems to adhere to the former; for example, he writes “Hoard creation by

individuals out of private income brings banknotes back to the banks to be transformed into

depository claims” (317). But this type of confusion is prevalent even in the Post Keynesian

literature; we could understand this by distinguishing between individual perspective and that

of society. Still however, Marxian theory of credit in general seems to be closer to ‘deposit

making loan thesis’ i.e. loanable funds theory.

- Classical economists – first Pennington and Boyd – recognized the identity between

deposits and notes as for the function of means of exchange, or currency. Yet, Boyd made a

slight distinction between ‘passive circulation’ for the former and ‘active circulation’ for the

latter (Viner 1937, p.244). See Viner (1937, p.243~) for more.

- Difference between deposits and notes: Fisher (1911, p.19), For Fisher (1911, p.38; 1912,

p.137) deposits are means of exchange (or as is the same thing, currency) but not money

while banknotes are both. Further distinction is for currency; bank deposits themselves which

checks or deposits account represent are ‘currency’ while checks are not currency; “The chief

difference is a formal one, the notes circulating from hand to hand, while the deposit currency

circulates only by means of special orders called "checks”” (1911, p.32). Excluding deposits

from money represents his theoretical root in the Currency school as opposed to Banking

school? Viner writes as if treating deposits and checks on them identically.

- Fisher treats bank deposits and banknotes as similar each other in the sense that they are

liabilities of the bank, i.e. the latter has to redeem them on demand: “Besides lending deposit

rights, banks may also lend their own notes, called "bank notes." And the principle governing

bank notes is the same as the principle governing deposit rights. The holder simply gets a

pocketful of bank notes instead of a bank account. In either case the bank must be always

ready to pay the holder — to "redeem its notes" — as well as pay its depositors, on demand,

and in either case the bank exchanges a promise for a promise. In the case of the note, the

bank has exchanged its bank note for a customer's promissory note. The bank note carries no

interest, but is payable on demand. The customer's note bears interest, but is payable only at a

definite date” (Fisher 1911, p.35).

- Wicksell is an exception among the quantity theorists in that he makes a distinction, as for

functions of money, between means of exchange and store of value (Wicksell 1898, p.22).

- See Fisher (1911, p.35)

- Reserves are required for the defense of deposits but not for banknotes.

- The currency school’s case for arguing that deposits bore a fixed proportion to notes:

Norman claimed that “the volume of deposits and bills of exchange was dependent on the

volume of underlying credit, which in turn was regulated by the amount of bank notes and

coin, and that in any case the influence on prices of these "economizing expedients" was only

"trifling and transient” (Viner 1937, p.251).

-EUREKA!!!! The reason why economists – or the currency school people – have tended not

to include deposits into the category of money is strongly implied in Fisher (1911, ch.3). In

sum, deposits are not a direct represent of money but merely a right to draw. Due to a

fractional reserve practice, those rights do not have a complete correspondence to money in

banks. (Checks are a certificate of those right.) Basically, this position conceives only M1 as

money but not M2, M3, etc.

Another important reason: Classical economists conceived money mainly as means of

exchange; those that are not active in circulation are not money.1 This is why deposits are

excluded from the category of money. On the other hand, modern economists recognize the

store of value as an important function of money and thus consider deposits as money.

Laidler (1991, p.8) insightfully explains this difference from the difference in method. That

1 Laidler (1991, p.8) writes that there was only one exception to the classical economists’ ignorance of money’s function of store of value and hoard (asset); it was Mill, who only points this in passing. When he says this, Laidler seems to not have Banking School in mind for whom money is a store of value as well. In particular, Marx.

is, conceiving money as a store of value or assets presupposes an individualistic micro

framework as in the modern portfolio theory whereas money as means of exchange does not

and only requires the equation of exchange, which was the macro framework for classical

economists.

What is Wicksell’s view on this? On one hand, he shares the same view with the quantity

theory on money that its only function is the means of exchange. But he conceives deposits

broadly as means of exchange awaiting temporarily to be used in transaction (thus he was

able to include deposits into the category of money while Fisher was not). On the other hand,

in some place Wicksell recognizes money’s function of a store of value. -> Wicksell treats

the two functions of money – means of exchange and a store of value is indistinguishable.

- For a very clear explanation in comparison to banknotes:

http://chestofbooks.com/finance/banking/Banking-Principles-And-Practice-2/Bank-Notes-

And-Deposits-Differences.html#.UQlvOb9X2Sq

- Deposit vs. hoarding: Hoarded money is money out of circulation. Currency school writers

conceived deposits as hoarded money and excluded them from the category of money since

for them money is nothing but means of circulation and therefore money out of circulation is

not money. As private bank money tends to replace cash with the development of banking

system, we could categorize demand deposits as money in circulation while time deposits as

hoarding out of circulation since the latter cannot be immediately used for transactions.

- Schumpeter’s very insightful view and critique of the traditional view of Cannan, according

to which deposits are similar to deposit of things for safe custody (Schumpeter 1954, p.1113-

4).

* DEMAND FOR MONEY

- History of theories on demand for money: McCallum & Goodfriend 1987, 122- ;

- Literature: See section 2 of Kim, Shin, Yun (2012), Judd and Scadding (1982).

- See the TREATISE ON MONEY section

- It should be distinguished from demand for credit or demand for nonmoney financial assets.

– In PK, money is created by credit, demand for money and demand for credit is positively

related.

* DICHOTOMY

- “…the method of analysis dichotomizing economics into two specialized departments, real

and monetary, is harmful and defective. We must deal with the economy as a whole uniting

and interlinking the two subsystems” (Morishima 1992, p.184).

* EQUATION OF EXCHANGE

- Historical origin: Bordo 1987, Milgate 1987. Viner 1937, p.249, fn.613.

- Controversy on whether it is an identity or equilibrium condition: See Rossi 2001, p.67

- Extended version where M includes money outside of the sphere of circulation is suggested

in Tao (2002 “Mismatch”, p.10) Tao says that this comes closer to Fisher’s original spirit.

- “The equation of exchange is a statement, in mathematical form, of the total transactions

effected in a certain period in a given community. It is obtained simply by adding together

the equations of exchange for all individual transactions” (Fisher 1912, p.140). Fisher calls

each side of the equation, money side and goods side.

- “The equation shows that these four sets of magnitudes are mutually related. Because this

equation must be fulfilled, the prices must bear a relation to the three other sets of magnitudes

— quantity of money, rapidity of circulation, and quantities of goods exchanged.

Consequently, these prices must, as a whole, vary proportionally with the quantity of money

and with its velocity of circulation, and inversely with the quantities of goods exchanged”

(Fisher 1912, Elementary p.142).

- Hicks grumbles about the preoccupation of monetary theorists on the equation of exchange, which

“has all sorts of ingenious little arithmetical tricks performed on it”. He suggests that marginal utility

theory, which is the basic framework for the theory of value, has to be used in the theory of money as

well; in this direction the main aim would be to demonstrate that money has marginal utility and that

is why the public demand it. Hicks attributes this way of theorization to Keynes’ liquidity preference

theory and suggests that the latter’s influence on Milton Friedman’s theory of demand for money

should be well recognized. http://uneasymoney.com/2013/08/06/hicks-on-keynes-and-the-theory-of-

the-demand-for-money/

* IRVING FISHER

- “Fisher’s theory of appreciation and interest, as he advised his readers many times, was

based on the crucial distinction between periods of full equilibrium and those of transition, or

disequilibrium” (Rutledge 1977, p.204).

- Fisher’s distinction between LR and SR analysis of the equation of exchange and

recognition of the significance of the transition period (SR) can find its root in the classical

quantity theorists. Laidler (1991, p.17-19) shows that Mill and Cairnes understood the SR

transmission mechanism from monetary expansion through interest rate adjustment to some

real effects.

- “Equation (5.3) incorporates the idea of transition periods outlined above. Fisher made it

clear that velocity is far from being constant (Wood, 1995, p. 104; Fisher, [1911] 1985, pp.

55, 63, 64, 320). Moreover, velocity is a function of expected price changes or the expected

inflation rate. The positive correlation between velocity and expected inflation seems to be a

major assumption in theories following the quantity theoretic tradition, as the Chicago School

and the Cambridge approach (see Patinkin, 1969, pp. 50, 51; Laidler, 1991b, pp. 292-293;

Tavlas and Aschheim, 1985, p. 295)” (Loef & Monissen 1999, p.10).

- After a detailed elaboration on deposits (M’) Fisher arrives at a conclusion that an inclusion

of them into the equation of exchange does not change the causal relation between money

and price (Fisher 1911, p.42-43).

- In explaining the credit cycle Fisher (1911, ch.4) concludes that the most important element

that disturbs the equilibrium bringing about cyclical fluctuation is the quantity of money.

- Anti-QTM in Fisher:

- After demonstrating various cases of change in equation of exchange, “Finally, if there is

a simultaneous change in two or all of the three influences, i.e., quantity of money, velocity

of circulation, and quantities of goods exchanged, the price level will be a compound or

resultant of these various influences. If, for example, the quantity of money is doubled, and

its velocity of circulation is halved, while the quantity of goods exchanged remains constant,

the price level will be undisturbed. Likewise it will be undisturbed if the quantity of money is

doubled and the quantity of goods is doubled, while the velocity of circulation remains the

same. To double the quantity of money, therefore, is not always to double prices. We must

distinctly recognize that the quantity of money is only one of three factors, all equally

important in determining the price level” (Elementary p.145).

- Using the graphical demonstration (fulcrum) of the equation of exchange, “In general,

any change in one of these four sets of magnitudes must be accompanied by such a change or

changes in one or more of the other three as shall maintain equilibrium” (Elementary p.147).

We don’t find any logical necessity in this statement leading to QTM. But that is what Fisher

does in EPE and PPM. For example, see Fisher (Elementary p.149~); here, after stating the

above-quoted remark, it is maintained that the third element, the quantity of money, is the

most important due to the peculiar nature of money; according to Fisher’s following

explanation, its peculiarity is that, contrast to other goods, it attains its value not from itself

but from its role of medium of exchange. This is exactly the same as the logic used by the

classical quantity theorists. Hume, in this reasoning, for example, characterized money as

having ‘fictitious value’. Now, understood in this way, destroying the logic of QT becomes

very easy; just to show that what Fisher characterizes as a peculiarity of money is not

money’s only aspect, i.e. money also has a hoarding function.

- “The factors in the equation of exchange are therefore continually seeking normal

adjustment. A ship in a calm sea will "pitch" only a few times before coming to rest, but in a

high sea the pitching never ceases. While continually seeking equilibrium, the ship

continually encounters causes which accentuate the oscillation. The factors seeking mutual

adjustment are money in circulation, deposits, their velocities, the Q's and the p's. These

magnitudes must always be linked together by the equation MV + M′V′ = ΣpQ. This

represents the mechanism of exchange. But in order to conform to such a relation the

displacement of any one part of the mechanism spreads its effects during the transition period

over all parts. Since periods of transition are the rule and those of equilibrium the exception,

the mechanism of exchange is almost always in a dynamic rather than a static condition”

(Fisher 1911, p.51).

- Fisher’s description of ‘transition period’ in chapter 4 does invalidate QTM as conceded

by Laidler (1991, p.78). But Laidler insists that Fisher’s version of QTM provides insight into

the ‘secular’ behavior of price. However, Fisher also writes that transition periods are normal

conditions of the real workings of the economy.

- For Fisher, the general price level means the weighted average price of all goods

(Elementary, p.147).

- Credit cycle in PPM ch.4: “It is the lagging behind of the rate of interest which allows the

oscillations to reach so great proportions”. At the end of the chapter Fisher quotes Marshall

and it shows that Marshall’s account is exactly the same with Fisher’s credit cycle theory.

- Laidler (1991, p.64) says that Fisher was interested in analyzing the determinants of ‘the

value of money’ to invoked the title of Pigou’s 1917 paper.

- Marshall’s superiority over Fisher (on the interest rate analysis) is his demonstration of the

sequence “increase in money -> decrease in interest rate -> increase in investment which

raises prices”, which is lacking in Fisher. Notice that this is just Marshall’s analysis of

‘transition period’ while he basically treated the interest rate as a real variable, by which it

means that “the supply of gold exercises no permanent influence over the rate of discount”

(Laidler 1991, p.65-66). However, Laidler (68) points out that the first part of the chain is not

Marshall’s original contribution but could be traced to Hume. (What about Hume’s

proposition that interest rate is not determined by the quantity of money?)

- Fisher was aware of the importance of distinguishing between absolute and relative prices.

And this is similar to Marx.

- Fisher’s monetary model of ‘compenstated dollar’ and another one for price stabilization

through open market operation in 100% Money are well described in Humphrey (1990).

- A fatal fallacy of Fisher: to assume a fixed level of desired deposit holding. Even though

this can be true for money, it is not for deposits. More deposits, better it is. Can there be a

notion of surplus deposits exceeding some desired level? No.

- Emphasis on the priority of analysis of the general price level to that of individual prices:

106~

- Summary: 109-10.

- “The Business Cycle Largely a ‘Dance of the Dollar,’” (1925) where Fisher attributed business cycles

to changes in the value of money.

* INFLATION

- Dalziel (2001)’s discussion of six English-speaking countries’ experience shows that in 70s

income policy – freeze on wage and price – was used to control inflation, and in late 70s and

early 80s monetary constraint was used, and these two episodes proves they were successful.

But monetary constraint policy was abandoned in late 80s due to the break of the stable

relation between monetary growth and inflation. This abandonment led to a rebound of

inflation, which brought about in 90s a reform in monetary policy to adopt a direct control of

inflation rather than an indirect one through monetary target.

* INTEREST RATE

- Exogenous/endogenous interest rate: The Fed can determine the Federal Funds rate but

practically, it set it both according to a reaction function and in response to the economic

situation as the lender of last resort. In this sense, it is hard to say that the interest rate is

totally exogenous as horizontalists would say. See Pollin (2008, p.3,4).

- “The decision to finance expenditure by borrowing, however, is simultaneously a decision

not to run down existing holdings of liquid assets. Deficit units commonly do run

simultaneous debit even though the cost of credit exceeds (sometimes by a large margin) the

return on deposits. The difference, or “spread” between … the rate charged on advances, and

the rate paid on deposits, may be taken as indicating the real cost of liquidity.” (Howells &

Mariscal 1992, 381)

- In Hume, interest rate does not depend on the quantity of money (“Of Interest”, p.12-13).

- Interest rate and prices

i) The classical view (Ricardo, etc.): low i -> high I -> increase in P -> deficit trade balance

-> outflow of golds -> decrease in P

ii) Tooke: low i -> outflow of money capital searching for a better investment opportunity -

> decrease in P (However, Wicksell (1898, p.112 fn) reports that Tooke admitted some

validity of the Classical view. And he supports the first view)

- In Keynesian IS-LM framework, the interest rate is determined in the money market

independently of goods market; in the latter it is investment and consumption expenditures

and associated employments that are determined and ultimately the income. This is in

opposition to what Keynes called classical system where there is no separate consideration of

money, which is a mere veil, and the interest rate is determined by the interaction of

investment and saving in the goods market, which is a loanable funds theory. In this sense,

Keynesian story has the monetary interest rate contrary to classical system which has the real

interest rate. The importance of the monetary rate of interest was pointed out by Marx before

Keynes: See CIII 645, especially, “to day that the demand for money capital and hence the

interest rate rises because the profit rate is high is not the same as saying that the demand for

industrial capital rises and that this is why the interest rate is high” (CIII 645).

* ASSET & LIABILITY MANAGEMENT

- Reference: Lavoie 1992, p.212; Moore 1989 “A Simple Model of Bank Intermediation”,

p.13-20); Goodhart 1989 “Hs Moore become too horizontalist?” 30-2.

- Liability management:

- Borrowing in the interbank market. This could “provide banks with reserves

independently of the central bank. Banks borrow from the central bank when their ability to

procure reserves through liability management reaches its limits” (Lapavitsas & Saad-Filho

2000, p.311-12).

- Lavoie (1999, p.105)

- “One way to characterize liability management is as a means of attracting funds out of demand deposit accounts, which have relatively high reserve requirements into CDs, the federal funds market, Eurodollars, and similiar instruments within the short-term money market” (Pollin 1991, p.)“Liability management requires that intennediaries with insufficient reserves to meet loan

demand pay market interest rates for funds acquired through federal funds borrowing,

repurchase agreements, issuing certificates of deposits or similar practices.I ntermediariesw

ill acquiesce in paying marketr ates on such instruments only if they could not expect to

obtain the funds they need more cheaply and/or readily through accommodative open market

operations and discount window borrowing, frown costs included” (Pollin 1991, p.370).

* LIQUIDITY PREFERENCE

- Keynes’ formulation of liquidity preference in the GT …. was a watered down version of

his richer analysis of the demand for money in the Treatise” (Rousseas 1986, p.31). His

theory of liquidity preference in the GT was a step back from his analysis of the demand for

money in the Treatise.

* LOANABLE FUNDS THEORY

+ Criticisms:

- Schumpeter: The presence of bank “alters the analytic situation profoundly

and makes it highly inadvisable to construe bank credit on the model of

‘existing funds’ being withdrawn from previous uses by an entirely

imaginary act of saving and then lent out by their owners. It is much more

realistic to say that the banks ‘create credit’, that is, that they create

deposits in their act of lending, than to say that they lend the deposits

that have been entrusted to them. And the reason for insisting on this is

that depositors should not be invested with the insignia of a role which

they do not play. The theory to which economists clung so tenaciously

makes them out to be savers when they neither save nor intend to do so;

it attributes to them an influence on the ‘supply of credit’ which they do

not have. The theory of ‘credit creation . . . brings out the peculiar

mechanism of saving and investment that is characteristic of full fledged

capitalist society and the true role of banks in capitalist evolution. . . . this

theory therefore constitutes a definite advance in analysis” (Schumpeter

1954, 1114).

- Bertocco (2009, p.618-19) describes the loanable funds theory as

asserting ‘substantial neutrality of bank money’ for two reasons: i) the

presence of bank money does not affect the natural rate of interest, ii) the

monetary authorities can achieve money neutrality by targeting money

rate of interest at natural rate.

* MILL

- See Wicksell (1898, p.85)’s dismiss.

- Admits the validity of Banking School’s endogenous theory of money but only in the

periods of tranquility. The relies on the reflux channel of bank deposits (Wicksell 1898, p.85-

6).

* MODEL, MODELLING

- “ …… the relationships in their dynamic setting treat causality as running unidirectionally

from the independent variables on the right side of each equation to the dependent variables

on the left. True, the modern theorist versed in formal equilibrium analysis may question this

mode of reasoning. Accustomed to thinking in terms of a system of equations simultaneously

satisfied by a set of ariables, he or she would argue that it makes no sense to think of one

variable adjusting first and thus causing another to adjust, and so on. Nevertheless, it is just

this sort of chain of causation that lies at the heart of Wicksell’s inflation mechanism and of

the active versus passive money debate” (Humphrey 2002, p.65).

* MONETARISM

- “The closest the Federal Reserve came to a "monetarist experiment" began in October 1979,

when the FOMC under Chairman Paul Volcker adopted an operating procedure based on the

management of non-borrowed reserves.11 The intent was to focus policy on controlling the

growth of M1 and M2 and thereby to reduce inflation, which had been running at double-

digit rates. As you know, the disinflation effort was successful and ushered in the low-

inflation regime that the United States has enjoyed since. However, the Federal Reserve

discontinued the procedure based on non-borrowed reserves in 1982. It would be fair to say

that monetary and credit aggregates have not played a central role in the formulation of U.S.

monetary policy since that time, although policymakers continue to use monetary data as a

source of information about the state of the economy.” (Bernanke 2006)

- “….the ‘contemporary incarnation’ (Congdon, 1978, p.3) of the (still) dominated theory,

which considers the purchasing power of money as the reciprocal of the general level of

prices” (Rossi 2001, p.64).

- Achilles heel: Bernanke & Blinder (1988, p.438)

- See Friedman, B. (1988) for the breakdown of money stocks and macro variables.

* MONETARY POLICY

+ Channels:

- Expectations channel:

- Risk-taking channel: Borio & Zhu (2008)

* MONEY

- Definition:

- Fisher (1911, p.19~): Primary vs. fiduciary money “The chief quality of fiduciary

money which makes it exchangeable is its redeemability in primary money, or else its

imposed character of legal tender”.

- Relation between credit money and paper (symbolic, token) money: “Bank notes and all other fiduciary money, as well as bank deposits, circulate by certificates oftencalled "tokens." (Fisher 1911).

- Currency: coin and notes backed by specie. A broader notion would be ‘circulating medium’

that includes bank deposits.

- Difficulty with money: “In practice, money is a most convenient device, but intheory it is always a stumbling-block to the student ofeconomics, who is exceedingly prone to misunderstand itsfunctions (Fisher 1912, p.134)”.

- After discussing how early classical writers conceived money, Viner writes “But the whole

discussion as to what is and what is not "money" retains the appearance of significance only

while velocity considerations are kept in the background”. “Moreover instruments which

were not money at some particular moment could be so at some other moment. In this

connection bills of exchange, time deposits, and overdraft privileges could be regarded as a

sort of "potential money” (Viner 1937, p.248).

- “There is no denying that views on money are as difficult to describe as are shifting clouds”

(Schumpeter 1954, p.289).

- “…assets are part of the money stock if and only if they constitute claims to currency,

unrestricted (at par). This principle rationalizes the common practice of including demand

deposits in the money stock of the US, while excluding time deposits and various other

assets.” (Eatwell et al. 1987, 118)

- On the reference for ‘metallists vs. cartalists’ debate see Zazzaro 2003, fn.4.

+ Origin of Money:

- “Indeed, although [metalist and chartalist] are mostly presented as divergences on the

logical origin of money (Wray, 1993; 2000; Ingham, 2000), often it is only its historical

origin that is in dispute. More precisely, given the inevitable absence of conclusive

evidence about the true origin of money, the real problem under discussion is which of the

possible historical origins of money is the most logically convincing” (Zazzaro 2003, p.9).

“Besides the historiographic and anthropological econstructions so brilliantly summarised

by Einzig (1966), an interesting attempt to offer some statistical evidence to test the

various hypotheses on the origin of money is offered by Pryor (1977), who finds slight

evidence in favour of the theory that sees money as a means of payment precede money as

a medium of exchange on the economic development scale” (Ibid, p.33).

+ Real Money:

- “Real money is what a payee accepts without question, because he is induced to do so by

" legal tender " laws or by a well-established custom” (Fisher 1912, p.138).

- Fisher distinguishes ‘primary money vs. fiduciary money’ (Fisher 1912, p.139) for

‘commodity money vs. non-commodity money’.

- Monetary base could be conceived of as being consisted of money in reserves and money in

circulation. The former is money kept in banks such as vault cash and reserves at central

banks, the latter being coins and notes in the public. Fisher (1911, p.41-42) shows that

deposits are in a fixed ratio to each.

- Fisher distinguishes money and deposits and categorizes three goods, i) money, ii) deposits,

iii) other goods. From this, we have six different types of exchange (Fisher 1911, p.39-40). I

think this is a very useful approach.

- The gap between classical and neo-classical on money is that between money as a social

institution and money as an object of individual choice, the latter in the sense of related to

demand for money (Laidler 1991, p.41).

- Similarly to Fisher, Wicksell points out the peculiarity of money as means of exchange (29).

Remind that Fisher, in explaining why he treats the quantity of money so a special variable

within the equation of exchange, notes that money is a means of exchange.

- Keynes’ definition: “Leijonhufvud has argued, and I believe correctly, that Keynes used the

term "money" as referring not only to currency and deposits narrowly defined but to the

whole range of short-term assets that provided "liquidity" in the sense of security against

capital loss arising from changes in interest rates ….. It is therefore somewhat misleading to

regard Keynes, as most of the literature does, as distinguishing between "money" and

"bonds."” (Friedman 1970, p.).

- Debates on QT were on the determination of the value of money, i.e. the quantity theory of

money vs. cost of production theory. Since Keynes, as Milton Friedman well described, the

focus moved to the determination of nominal income, so the quantity theory of money (which

dictates that nominal income is determined by the quantity of money) vs. income-expenditure

theory (it is investment and consumption expenditure that dietermine nominal income).

+ Real vs. Monetary:

- “[Saving and investment decisions] rests basically on the fact that in making

their borrowing and lending decisions, rational households (and firms) are

fundamentally concerned with goods and services consumed or provided

at various points in time. They are basically concerned, that is, with

choices involving consumption and labor supply in the present and in the

future. But such choices must satisfy budget constraints and thus are

precisely equivalent to decisions about borrowing and lending — that is,

supply and demand choices for financial assets. . . . Consequently, there is

no need to consider both types of decisions explicitly. . . . it is seriously

misleading to discuss issues in terms of possible connections between

“the financial and real sectors of the economy”, to use a phrase that

appears occasionally in the literature on monetary policy. The phrase is

misleading because it fails to recognize that the financial sector is a real

sector” (McCallum 1989, 29-30).

- Money: banking system liabilities, credit: banking system assets

+ DEMAND FOR MONEY:

- Demand for money related to Cambridge k is different from hoard.

- Keynes’ formulation of liquidity preference in the GT …. was a watered down version of

his richer analysis of the demand for money in the Treatise” (Rousseas 1986, p.31). His

theory of liquidity preference in the GT was a step back from his analysis of the demand for

money in the Treatise. It was essentially a bond-money model where the demand for money

was a demand for earning assets. The finance motive, however, focused on the demand for

money not as a demand for a stock of assets but as a business demand for a flow of credit

(44).

-> As can be seen from Rousseas’ comments, popularized discussions on the demand for

money are not based on a commonly accepted definition of money. Therefore, any

discussions on the demand for money should start by providing a rigorous definition of

money. But is it true that GT’s discussion of demand for money was about bond-money? I

don’t think so; in the liquidity preference function L(Y,i), i is a negative argument.

+ Keynes’s concept of money

- “Perhaps anything in terms of which the factors of production contract to beremunerated, which is not and cannot be a part of current output and is capable ofbeing used otherwise than to purchase current output, is, in a sense, money. If so, butnot otherwise, the use of money is a necessary condition for fluctuations in effectivedemand” (Keynes 1933: 86; re-quoted from Hein 2006) - Hicks grumbles about the preoccupation of monetary theorists on the equation of exchange,

which “has all sorts of ingenious little arithmetical tricks performed on it”. He suggests that marginal

utility theory, which is the basic framework for the theory of value, has to be used in the theory of

money as well; in this direction the main aim would be to demonstrate that money has marginal utility

and that is why the public demand it. Hicks attributes this way of theorization to Keynes’ liquidity

preference theory and suggests that the latter’s influence on Milton Friedman’s theory of demand for

money should be well recognized. http://uneasymoney.com/2013/08/06/hicks-on-keynes-and-the-

theory-of-the-demand-for-money/

* NEOCLASSICAL APPROACH, CRITIQUES

- For references see Rossi 2001, p.76

* NUMERAIRE

- See Passinetti 1993 Structural Change and Economic Growth, p.63-4.

* QUANTITY THEORY OF MONEY

- Origin: See Wicksell (1898, p.38, fn.1),

- Literature: Edwin Kemmerer (applied QT to the Gold Standard)

- Blaug says it is striking to see how economists failed to provide rigorous statement on

QTM. (Blaug 1995: 43)

- “The QTM was born in the sixteenth century as a response to the global price revolution set

off by the gold and silver discoveries of the New World, that is, by the attempt to explain

world inflation by an exogenous increase in the money supply; exogenous, that is, in a model

sense of the term. Nevertheless, for one country considered in isolation the change in the

money supply was endogenous because it depended on the elasticity of supply of its exports

and the elasticity of demand for its imports.” (Blaug 1995: 38)

- QTM received its greatest fillip with the suspension of specie payments in 1797, which

introduced an entire generation of monetary thinkers to the notion of inconvertible fiat paper

money and floating exchange rates, a monetary regime in which the money supply is

exogenous as it had never been before.” (Blaug 1995: 30) Marx also reports the same story:

“The suspension of cash payments by the Bank of England in 1797, the rise in price of many

commodities which followed, the fall in the mint-price of gold below its market-price, and

the depreciation of bank-notes especially after 1809 were the immediate practical occasion

for a party contest within Parliament and a theoretical encounter outside it, both waged with

equal passion.” (Marx 1970: See more on this.) The convertibility of paper money was

restored in 1821

- Three elements of QTM: i) money is exogenous, it determines price, ii) demand function of

money is stable, constant income velocity of money, iii) Y or T is determined not by M or P

but by real variables. See Blaug (1995: 29)

- See Blaug (1995: 39-40) for two versions of QTM: i) Cambridge income approach (rest

theory of money) ii) Fisher’s transaction approach (motion theory of money) ‘money ->

price’ causal mechanism almost disappeared in Fisherian transaction approach to QTM.

According to M. Friedman (1987), in income approach money is a particular asset to be held,

rather than a means of circulation to be transferred. (from Brunhoff 1997) Brunhoff (1997)

notes that in both approaches, M is a stock not a flow, and “empirically the money stock is

represented by the aggregate M2 (currency and deposits).”

- It is interesting that for Hume, who was against paper money, money only has ‘fictitious

value’ and is ‘representation of labour and commodities’ in the sphere of exchange. (See Itoh

& Lapavitsas 1999: 8)

- One of the most important theoretical features of monetary theories within the tradition of

quantity theory of money seems to be accepting Hume’s notion of ‘fictitious value’ of money.

- Two values of money which Foley emphasized already had been the controversial issue in

the classical PE. For example, Hume’s notion of ‘fictitious value’ of money; Ricardo’s

automatic equilibrium mechanism which explains how the contradiction between fictitious

value of money and the intrinsic value of money (both of which Ricardo accepted) is

resolved.

- Ricardo’s money theory allows only a means of exchange function for money.

- “The question, of course, is whether, in the case of inconvertible currency, changes in

the price level are in any sense caused by changes in the money supply. In the banking

school view, the answer to this question seems to depend on whether there is a channel

for reflux of an excess issue of money (i.e. fiat currency) in addition to the channel for

reflux of excess deposits.” (Merhling 1996: 337 See pp.337-8 more on this.)

- Discussion of a contradiction between the theory of money and the theory of value in

Ricardo (as pointed out by Marx): Clair 1957, A Key to Ricardo, p.299; De Vivo 1987,

“Ricardo, David”, The New Palgrave Dictionary of Economics eds. Eatwell, Milgate,

Newman

- “The quantity equation …. Must be drastically modified when we consider systems in

which credit plays an important role in financing transactions.” (Foley 1986, 24)

- In Marx in contrast to QTM the quantity of money adapts to the needs of circulation by the

expansion and contraction of hoards in commodity money system and by expansion and

contraction of credit in non-commodity money system. (Foley 1986, 25)

- “Still, Marx’s approach to the quantity equation is theoretically important. It suggests that

even in a monetary system with an abstract unit of account, that is, in a system in which

forms of credit act as means of payment, the correct order of explanation for monetary

phenomena runs from the needs of circulation to the mechanisms that meet those needs.”

(Foley 1986, 25)

=> This is so a simplification of the complex reality where finance plays more active roles in

affecting price system. Foley and other anti-QT writers tend to take money as a simple veil.

(But what about endogenous money theory of PK and MCA? How does this ‘money as a veil’

aspect of heterodox tendency towards anti-QTM relate to the general fact that the monetary

dichotomy of ‘money as veil’ is a typical idea of neoclassical mainstreams? Mainstream

economists admit money’s influence on price if not on output. Heterodox economists do not

even admit this. The latter has stronger classical dichotomy and money neutrality than the

former.) They also seem to strictly adhere to the real bills doctrine and the law of reflux. Cf.

“Money is active in positing commodities as values. This prefigures the dominance of buying

in order to sell (M-C-M’) in developed capitalist relations. In M-C-M’, money cannot

possibly be seen as passive because a monetary increment is set as the aim of the circuit.

Money is the most active thing there is in the economy, an important goal of any theory of

money should be to explain this.” (Arthur, 2006: 33) But active in what sense? In this passage

it is unclear or it refers merely to the notion of money the increment of which is the final goal

of capitalist production. Does Arthur also imply ‘active’ in that it affects either output or

price?

- As for the comparison between Marx and QTM, the similarity lies only at the phenomenal

level of causal relation between money and price. More fundamental aspects as for the

mechanism underlying the relation generate huge difference between Marx and QTM.

- Difference between M and QTM: Moseley

- Difference between extra money approach and QTM (Saad-Filho 2002, p.350-351): i)

exogenous vs. endogenous creation of money, ii) money neutrality in the short-run and long-

run, iii) simple (predictable) and complex (unpredictable) relation between money and price

- “The quantity theory has been one of the most bitterly contested theories in economics,

largely because the recognition of its truth or falsity affected powerful interests in commerce

and politics. It has been maintained – and the assertion is scarcely an exaggeration – that the

theorems of Euclid would be bitterly controverted if financial or political interests were

involved” (Fisher ch.2).

- As for ‘transaction’ and ‘income’ version of QTM, see Friedman (1987) “… the transaction

version includes the purchase of an existing asset – a house or a piece of land or a share of

equity stock – precisely on a par with an intermediate or final transaction. The income

version excludes such transactions completely.” “The transactions and income versions of the

quantity theory involve very different conceptions of the role of money.” (Friedman 1987, 7)

- One of the main reasons for the case of anti-QTM and anti-monetarism for the heterodox

tradition is the fact that no meaningful statement is possible with the quantity of money, or in

modern language, monetary aggregate; for both the difficulty in measuring the latter and the

instability of the empirical relationship between money growth and other macro variables as

inflation, nominal output growth, etc. If this so, Marxists’ general objection to QT should be

found elsewhere since Marx has a unambiguous distinction between money and non-money

which renders measuring monetary aggregate not difficult.

- Fisher maintained that the causal relation between money and price holds true even when

the other variables change (Fisher 1911, ch.5) -> Does he really says this? In this chapter

Fisher examines other factors outside of equation of exchange and see how they affect prices

through influencing the rest of the three variables.

- Fisher’s case for the QTM is always presupposed upon the premise ‘other things being

equal’ (Fisher 1965, p.14)

- Equiproportionality hypothesis holds on two grounds (Fisher 1911, ch.8 which is

summarized in Humphrey 1997, p.75). i) Full employment of resources in the long run;

Keynesian notion of underemployment equilibrium would undermine this point. ii) There is a

desired level of money velocity and people would tend to maintain it; First, it seems

unreasonable to presuppose the money velocity as having its own measure independent of

other variables; second, what is the meaning of the desired level of money velocity and why

should people have such level?

- “One can employ a simple litmus test: a person essentially is a quantity theorist if he

believes the monetary authority can stabilize the price level through control, direct or

indirect, of the stock of money or nominal purchasing power” (Humphrey 1997, p.85).

- CRITIQUE OF QT

- Tooke’s critique summarized in ‘seventeen conlcusions’; See Wicksell (1898, p.44)’s

comments on this.

- QTM is usually based on an exclusion of money’s function of hoard and store of value.

For example Fisher’s explanation “Suppose, for instance, that the quantity of money were

doubled, while its velocity of circulation and the quantity of goods exchanged remained the

same. Then it would be quite impossible for prices to remain unchanged. The money side

would now be $10,000,000 X 20 times a year, or $200,000,000 ; whereas, if prices should not

change, the goods would remain $100,000,000 and the equation would be violated. Since

exchanges, individually and collectively, always involve an equivalent quid pro quo, the two

sides must be equal” (Fisher 1912, p.143). Here the premise is that those extra money would

entirely be used in transaction, which precludes the possibility of hoards.

- In the interwar period, Stockholm School, influenced by Wicksell, rejected QTM as

outmoded and irrelevant, identifying it with the stable velocity of currency construction of

Wicksell’s pure cash economy special case” (Laidler 1991, p.148).

- Critical comments on the modern Neoclassical implication of QT in Nicholas (2011,

p.112-13). Some QT-look-like phenomenon whereby monetary expansion, such as a recent

quantitative easing, leads to speculative bubbles should be distinguished from the usual QT

mechanism whereby an increase of general price level is generated by the expansionary

monetary policy.

- A circular reasoning in Cambridge cash balance approach; demand for money already

presupposes some price level and the value of money. Austrian school came up with the same

answer with Moseley, i.e. money demand depends on expectation of future prices (Shand

1984, p.160-61, Nicholas 2011, p.113). Nicholas’ answer to this solution is very powerful: “it

would only provide an escape route for the Neoclassical approach if it can be assumed that

the future value of money does not depend on preferences to hold current balances” (113).

This also applies to Moseley’s answer; if we are to argue that the quantity of money depends

on the future prices, then it has to be shown in order to avoid a circular reasoning that those

future prices do not depend on the current quantity of money.

- “Classical quantity theorists, however, did not argue that velocity was an empirically stable

parameter in this sense. They were as much concerned with the cyclical interaction of money

and prices as with secular relations, and in this context they stressed not the role of a given

institutional structure in stabilizing velocity in the long run, but rather the short-run scope for

prices to vary independently of the quantity of money which that structure provided” (Laidler

1991, p.16). It was mainly Cairnes and Mill who modified and gave sophistication to the

classical QT (Ibid).

- Quantity theorists always start their exposition with an awkward assumption such as an

arbitrary overnight increase of money balance for all people. Example: Hume (1752, p.53)

Those changes in the money stock are taken as given and not explained. This shows their

exogenous money approach.

- In most case, whenever the causal mechanism from increase of money to rise of prices

is explained full employment is assumed implicitly or explicitly. Underemployment will

disappear through price adjustment in the long run. What about from the heterodox

perspective?

- Keynes’ income-expenditure approach is a critique of QT: Both have a different

explanation of income determination. For Keynes it is investment and consumption and for

QT the quantity of money that determines income.

- Formalization: Humphrey (2002),

+ CAMBRIDGE CASH-BALANCE APPROACH:

- Its first exposition in Marshal and Walras: See Laidler 1991, p.59-60. Keynes’s liquidity

theory as a refinement of earlier Cambridge monetary thought (Laidler 1991, fn.9 of ch.3)

- Cambridge people had an ambiguous distinction between income and wealth in dealing

with demand for money (Laidler 1991, p.61)

- Is based on the Walras’s Law according to which excess demand of goods should be

matched by excess supply of something else. For the quantity theorists the latter is money

(Humphrey 2002, p.67).

- One of the differences between income and transaction version of QT is the conception of

money. Income version: money is held, Transaction version: money is transferred (Friedman

1970, p.200). Friedman takes the income version as lying in between the transaction version

and Cambridge cash-balance approach.

- M in this approach includes all monetary assets that constitute the concept of money,

demand and time deposits, etc.

- Is money includes deposits as well?

- The notion of ‘excess supply of money’ is non-sense; desire for accumulation of money

has no limit. But this idea is widely accepted even in the heterodox literature. Examples:

Gurley & Shaw (1960, p.66),

- Blaug (ETP 4th ed.) p.636-37 for critique of Cambridge approach.

+ CAMBRIDGE K

- Critique by Patnaik (2009, p.37-38): i) its assumption of unit-elastic price expectation,

ii) with inside money, its argument about the real-balance effect becomes invalid as shown in

Johnson (1958) “Monetary Theory and Policy” AER, iii) its ambiguous time framework.

+ CASH TRANSACTION APPRAOCH

- Patnaik (2009, p.44) points out that transaction demand for money is logically

incompatible with the Walrasian equilibrium framework since for former presupposes a time

lag between sales and purchases, which however in the latter is absent.

- Clower (1967): See Patnaik (2009, p.44)’s summary

- Hool (1979): See Patnaik (2009, p.44)’s summary

+ MILTON FRIEDMAN

- As for the equation of exchange MV=PY, Friedman describes it as a tautology which

states that PY the nominal income is determined by either M or V (1970, p.195). The

underlying premise is the causation from the LHS to RHS. This is taken for granted. More

general and fair is to characterize the equation of exchange as an identity where the equality

always holds regardless of the direction of causation, which is a separate question.

- After stating that P (or Y when P is fixed, and thus nominal income PY) changes by

changes in k or M, Friedman (1970, p.195) defines QT as, in an analytical level, an analysis

of elements affecting k and, in an empirical level, a generalization of the relatively slow

change of demand for cash holding and fast and independent changes in money supply.

- Transaction version: important fact of money is that it is transferred and it is the general

purchasing power.

- Cash-balance approach: important fact of money is that it is held and it is a temporal

abode of purchasing power.

- See Patnaik (2009, ch.5, fn1) for monetarism’s separation of interest rate and money

supply.

- Marshall and Keynes have the opposite view from each other on the adjustment process:

For Marshall prices only and not quantity adjust in the short run while in the long run the

quantity also adjusts. Whereas, for Keynes it is only quantity but not price that adjusts in the

short run. See Friedman (1970, p.208-209) on this.

- “Keynes explored this penetrating insight by carrying it to the extreme: all adjustment in

quantity, none in price. He qualified this statement by assuming it to apply only to conditions

of underemployment. At "full" employment, he shifted to the quantity-theory model and

asserted that all adjustment would be in price-he designated this a situation of "true inflation."

However, Keynes paid no more than lip service to this possibility, and his disciples have

done the same; so it does not misrepresent the body of his analysis largely to neglect the

qualification” (Friedman 1970, p.209-10).

- More precise name is quantity of money theory of price.

- “the smaller quantity of money would perform the functions of a circulating medium, as

well as the larger” (Ricardo High Price of Bullion)

- Essence of QTM (Arnon 2010, p.58)

- Hume:

- “It is also evident, that the prices do not so much depend on the absolute quantity of

commodities and that of money, which are in a nation, as on that of the commodities, which

come or may come to market, and of the money which circulates. If the coin be locked up in

chests, it is the same thing with regard to prices, as if it were annihilated; if the commodities

be hoarded in emagazines and granaries, a like effect follows. As the money and

commodities, in these cases, never meet, they cannot affect each other. Were we, at any time,

to form conjectures concerning the price of provisions, the corn, which the farmer must

reserve ffor seed and for the maintenance of himself and family, ought never to enter into the

estimation. It is only the overplus,° compared to the demand, that determines the value” (Of

Money).

- “It is the proportion between the circulating money, and the commodities in the market,

which determines the prices” (Of Money).

- Dimand ()’s reading of Hume is misplaced; see its conclusion and compare it with

Humphrey (1982).

- Cantillon effect (Blaug 1985, p.21)

- While Humphrey (1982) made a distinction of "level vs. rate of change" of quantity of

money to make sense of Hume, Wennerfield (2005) came up with "exogenous vs.

endogenous" supply of money.

- QTM originally had the pure commodity money system at its background. The history of

QTM can be understood as a gradual emergence of theoretical challenges to it as the

monetary system gradually developed away from the pure commodity money system toward

mixture of gold and paper money. Hume included convertible banknotes in the category of

quantity of money. However, it the assumption was a perfect coverage of notes by metal. The

biggest challenge is the case of pure credit economy as in Wicksell.

- See Arnon 2010, p.167: “Many of the classicals thought the supply was endogenous to the

economic processes, and thus was uncontrollable. More specifically, they thought that, in line

with the famous Price-Specie-Flow mechanism, the supply of the monetary aggregate and the

price level are determined in such a way that, in the long run, the value of money is

determined by the value of the commodity-money” (167-68).

* PATNAIK (2009)

* QUANTITY OF MONEY

+ Literature

- Friedman, Benjamin (1988) “Monetary PolicyWithout Quantity Variables,” American

Economic Review 78, 440-45.

- “If the financial system is instead organized around thecapital market, then conventional measures of money representonly a small proportion of the aggregate size of the leveragedsector.” “The concept of liquidity we proposed earlier—the growthrate of aggregate balance sheets or, more precisely, thegrowth rate of outstanding repurchase agreements—is a farbetter measure for a modern, market-based financial systemthan is the money stock.” (Adrian and Shin 2008).

- “Our results add to the literature on the role of liquidity in asset pricing. Gennotte and

Leland (1990) and Geanakoplos (2003) provide early analyses that are based on competitive

equilibrium. As well as those mentioned in the opening to our paper, recent contributions to

the role of liquidity in asset pricing include Allen and Gale (2004), Acharya and Pedersen

(2005), Brunnermeier and Pedersen (2005, 2009), Morris and Shin (2004), Diamond and

Rajan (2005). The common thread is the relationship between funding conditions and the

resulting market prices of assets. Closely related is the literature examining financial distress

and liquidity drains” (Adrian & Shin 2010, p.436).

- “… Money, on the contrary, as the medium of circulation, haunts the sphere of circulation

and constantly moves around within it. The question therefore arises of how much money this

sphere continuously absorbs” (KI, p.213). Marx starts with this statement in explaining the

equation of exchange relation and the money/price relation within it.

- Based on Post Keynesian theory of endogenous money that “the proximate cause of changes

in the money supply is the low of net new bank lending” and the empirical observation that

the fluctuation of transaction velocity is followed by monetary growth, Howells & Mariscal

(1992) tests a hypothesis that “the flow of net new bank lending to the personal sector

depends, inter alia, upon total rather than income-related transactions.”

- Three ways of effectuating change in the quantity of money (Fisher, Elementary, p.150-51):

i) Renaming coins, ii) cutting them in two, iii) duplicating them. Fisher says that all these

three increase price proportionately.

- See Laidler (1999, p.87, fn.20) for the argument that money serving a pure store of value

should be regarded as no longer in circulation, and hence irrelevant to the working of the

quantity theory.

- Hume: What matters is not the total stock of commodities and money in the economy but

commodities coming to the market and money circulating therein (Hume “Of Money”, p.6-

7).

- For Hume, what matters for QTM is the level of quantity of money while money’s real

effect has to do with its rate of change (Humphrey 1982).

- See Wicksell (1898, p.137)

- Money supply in monetarism: Problematic since there is no way to introduce the

entry of money into the model without affecting interest rate. See Patnaik 2010, ch.2

fn.5)

- Commercial banks’ lending money to shadow banks takes a form of holding such as ABCP

not directly handing over money. This practice changes the measure of narrower measures of

monetary aggregate (See 김병기 2013, p.18).

- “Whereas traditional definitions of monetary aggregates exclude the liabilities between financial intermediaries when defining monetary

aggregates, such liability aggregates turn out to be perhaps the most informative of them all” (Shin 2012, “The search for early warning indicator”).- “The role ofmonetary aggregates as the counterpart to credit developments have been well understood bycentral bankers (see, for instance, Issing (2003) and Tucker (2007)). (Kim, Shin, Yun)

* PRICE THEORY

- The reason why classical economists emphasized the price stability and thus the relation

between money and price so much: See Laidler (1991, p.9)

- “The equation shows that these four sets of magnitudes are mutually related. Because this

equation must be fulfilled, the prices must bear a relation to the three other sets of magnitudes

— quantity of money, rapidity of circulation, and quantities of goods exchanged.

Consequently, these prices must, as a whole, vary proportionally with the quantity of money

and with its velocity of circulation, and inversely with the quantities of goods exchanged”

(Fisher 1912, p.142).

- One of the main issues is ‘real vs. monetary’ theory of price. Cost of production and QT

correspond to each. While uneasy coexistence characterizes the Classical quantity theorists,

the Cambridge economists and Fisher got rid of the real aspects of price theory (Laidler 1991,

p.83)

- What role does money play in Marx’s theory of price? The usual Marxian approach posed

as opposed to the QT and monetarism emphasizes the real aspects of price fluctuation as

opposed to monetary ones. In this sense then Marxian approach treats money as a veil which

is the same with the mainstream economics. How do we deal with this?

- “The use of money to order preference by individuals, or compute returns on inputs by

entrepreneurs, does not make it the measure of the exchangeable worth of commodities. It

does not make it the general equivalent in the process of exchange and, therefore, that which

regulates the actual exchange of commodities. This is because the use of money to set prices

which directly or indirectly reflect preferences/utility would imply, given the heterogeneity of

preferences/utility, that money in some way or another also reduces preferences/utility to

equivalence. But given the nature of preferences/utility, such a reduction would appear to be

contradictory” (Howard 2011, p.95).

- Neoclassicals do not recognize that “it is not prices that govern the allocation of resources

but rather the incomes of producers and, in particular, the profits of productive

capitalists~~~” (Nicholas 2011, p.97). They don’t either see that prices reflect “the physical

requirements of reproduction of commodities” (98; see this page for more).

- Neoclassical price theory “implies money acquires its value, and commodities their money

prices, in the process of exchange, as a result of their quantitative commensuration. It implies

money come into circulation without a given magnitude of exchangeable worth and

commodities without money prices” (Nicholas 2011, p.111).

- General Price Level:

- Hume assumed it as observable. Ricardo objected this and suggested pound price of gold

or of foreign currency, i.e. exchange rate as a good proxy. This is so as, P IP=P I

G∗PgP where P

denotes price, the subscript I includes all commodities 1, 2, ….., i, subscript g denotes gold,

superscript P implies price in terms of pound, superscript G price in terms of gold. P IG can be

replaced by P IF where superscript F implies price in terms of foreign currency. Both P I

G and

P IF provide a standard level against which the domestic price level in terms of domestic

currency can be judged whether too high or too low (Of course, in case of P IG, the gold price

used in constructing the latter is the official mint price). So if we normalize P IG (or P I

F),

according to the above equation P IP and Pg

P move in a one-to-one correspondence.

- Friedman characterizes Keynesian as “who will explicitly assert that P is “really” an

institutional datum that will be completely unaffected even in short periods by changes in M”

(Friedman 1970, p.210). Friedman’s description of Keynes’s treatment of price is exactly the

same with Foley’s: “It appends to this system a historical set of prices and an institutional

structure that is assumed either to keep prices rigid or to determine changes in prices on '-the

basis of "bargaining power" or some similar set of forces Initially, the set of forces

determining prices was treated as not being incorporated in any formal body of economic

analysis. More recently, the developments symbolized by the "Phillips curve" reflect attempts

to bring the determination of prices back into the body of economic analysis, to establish a

link between real magnitudes and the rate at which prices change from their initial

historically determined level (Phillips 1958)” (Friedman 1970, p.220). The last part, where

price change is considered from its historically determined level is exactly the same with

Foley’s assertion that Marxian price theory should start with a historical analysis of the price

movement.

- “The price level is normally the one absolutely passive element in the equation of exchange.

It is controlled solely by the other elements and the causes antecedent to them, but exerts no

control over them” (Fisher 1911).

* SEIGNIORAGE

- “Originally, seigniorage was an amount collected by the seigneur minting the currency out

of previous metals. It was equal to the difference between the face value of the currency and

the value of its metallic content” (Rossi 2001, p.115, fn.23).

* STUDIES IN MONETARY AGGREGATE

- Friedman 1956 Studies in the Quantity Theory of Money; Friedman 1960 A Program for

Monetary Stability (It advocated that monetary policy engineer a constant growth rate for the

money stock.); William Abbott;

* TEXTBOOK

- Graduate level: Jordi Gali Monetary Policy, Inflation, and the Business Cycle: An

Introduction to the New-Keynesian Framework, Woodford Interest and Prices, DeJong

Structural Macroeconometrics,

- Introductory & Intermediate: Ray Bert Westerfield 1928, Banking Principles and Practice

(all the banking and financing terminology is explained with great clarity and easiness).

* VELOCITY OF MONEY

- Literature:

- Nicholas (2011, p.193, fn.52)

- Laurent, Robert. "Currency Transfers by Denominations." Ph.D. dissertation, Univ.

Chicago, 1969; Friedman says it “extremely ingenious indirect calculation of V as opposed to

V’”. (Friedman 1970, fn.3)

- Defintion:

- “This important magnitude, called the velocity of circulation or rapidity of turnover,

means simply the quotient obtained by dividing the total money payments for goods in the

course of a year by the average amount in circulation by which these payments are effected.

This velocity of circulation in an entire community is a sort of average of the rates of

turnover of different persons. Each person has his own rate of turnover which he can readily

calculate by dividing the amount of money he expends per year by the average amount he

carries” (Fisher 1911, Elementary p.141)

- Howells & Mariscal (1992): ratio of transactions to total deposits

- Keynes in Treatise on Money makes a distinction between V1 for the velocity of income

and V2 for the velocity of ‘business’ deposits, further distinguishing the latter into that used

in industrial circulation and in financial circulation (Howells & Mariscal 1992, 377) => By

‘business’ deposits Keynes means cash deposits or transaction deposits or active balance as

opposed to long-term deposits or idle balance.

“…the volume of trading in financial instruments … is not only highly variable but has no

close connection with the volume of output whether of capital goods or of consumption

goods; for the current output of fixed capital is small compared with the existing stock of

wealth, which in the present context we will call the volume of securities … and the activity

with which these securities are being passed round from hand to hand does not depend on the

rate at which they are being added to.” (Keynes 1930, vol.1, p.222) => “Fluctuations in

financial transactions both can and will cause changes in velocity, independently of changes

in the production of final goods and services ~~~~~~” (Howells & Mariscal 1992, 377)

- Friedman admits that Defining V as PY/M is not exactly correct but just for a convenience

due to a difficulty of measuring V, which should have independent determinants. In such

definition, V is treated as a residual or ‘statistical discrepancy’ that renders the equation

correct (Friedman 1970, p.198).

- As for the ‘residual approach’ (which I term the approach where the velocity of money is

defined as a ratio of the other variables of the equation of exchange), the velocity of money

would be ‘actual’ in the sense that it is what is observed; on the other hand, we could also

think of desired levels which need not equal the actual amount. This is how Friedman (1970)

proceeds.

- “it is important to remember that the growth of liability management, seen as an alternative

means of generating needed reserves, is essentially another way of viewing the phenomenon

of rising money velocity. If we define velocity as nominal GNP/M1, then clearly an increase

in lending relative to deposits and reserves will imply that GNP should similarly rise relative

to Ml.1” (Pollin 1991).

- Friedman (1987, 8) distinguishes observed, or measured, velocity and desired velocity. The

former corresponds to what Kotz refers to and the latter to Lapavitsas and Marx.

- “A measure of total transactions has to incorporate all intermediate transactions (for raw

materials, part-finished goods); all transactions in second-hand goods (including much

spending on house purchase in the United Kingdom) and by far the greater part of financial

and speculative transactions.” (Howells & Mariscal 1992, 373) Similarly, in Marx monetary

transaction is consisted of real transaction (‘real replacement of commodities’) and financial

one (‘speculation in futures on the stock exchange etc.). (Marx 1978, 417)

- Keynes in “Treatise on Money” measured velocity as for active deposits to total

transactions, not in relation to the change in the ratio of active deposits to idle ones. Howells

& Mariscal 1992, 376) “Thus it has been usual to limit the ‘velocity of circulation,’ so far as

is practicable, to the effective money or money in active circulation and not to stultify the

conception by watering down the velocity of the money in circulation by including money

which was not in circulation at all, but was being used as a ‘store of value’ and therefore had

no velocity at all.” (Keynes 1930, vol.1, p.17; emphasis in the original)

- Bank lending could be used on anything transactions, real or financial (speculative)

(Howells & Mariscal 1992, 378) “A boom in spending of this kind, if it results in a surge in

bank lending and eventually in the money stock, must result in a fall in income velocity both

absolutely and in relation to transactions velocity.” (Ibid, 378)

- One important issue in the literature on the money velocity is to explain the divergence

between transaction and income velocities in 1980s. Howells & Mariscal (1992)’s case is “the

possibility that much of it is due to a boom in financial, speculative, and second-hand

(particularly housing) transactions” as opposed to other explanations one of which is “the

disintegration of production units and a consequent rise in intermediate transactions.” (378)

- “Within a Post Keynesian framework, it is not clear, to begin with, whether velocity as a

concept remains useful for understanding the processes through which money becomes

endogenous.” (Pollin & Schaberg 1998, 136)

- “It should also be noted that many contemporary economists operating more closely within

the quantity theory framework recognize the importance of financial innovation for

explaining changes in velocity (see, for example, Laidler 1985). What is not clear is how such

recognition squares with the stronger claims of the quantity theory approach.” (Pollin &

Schaberg 1998, fn.3)

- Velocity of money as a function of interest rate: Duck 1993 “Some international evidence on

the quantity theory of money’ Journal of Money, Credit, and Banking 25-1.

- Instability of velocity: Robison 1956.

- Money in motion vs. Money at rest (Bordo 1989, Tao 2002)

- “To understand money in motion, we must inspect its quantity, quality and velocity… the

quality of money is its purchasing power adjusted by price index P.” (Tao 2002 “Mismatch”,

p.9)

- Does not include hoards: Howells (1991, p.387),

- Treating the velocity as having a measure of its own independent from the other variables –

typically in Fisher (1911) – is strange judging from the conventional measure as the ratio, say,

between the total transaction to total deposit.

- “Equation (5.3) incorporates the idea of transition periods outlined above. Fisher made it

clear that velocity is far from being constant (Wood, 1995, p. 104; Fisher, [1911] 1985, pp.

55, 63, 64, 320). Moreover, velocity is a function of expected price changes or the expected

inflation rate. The positive correlation between velocity and expected inflation seems to be a

major assumption in theories following the quantity theoretic tradition, as the Chicago School

and the Cambridge approach (see Patinkin, 1969, pp. 50, 51; Laidler, 1991b, pp. 292-293;

Tavlas and Aschheim, 1985, p. 295)…. Expected inflation may well be destabilizing by

increasing or decreasing velocity in such a way that the economic system might be far from

being stable. ‘If velocity is sufficiently sensitive to inflation, the latter, once started, can

accelerate without limit even in the absence of any monetary expansion’ (Laidler, 1991b, p.

292).” (Loef & Monissen 1999, p.10-11).

- Two broad categories determining the velocity of money:

i) the technical institutional characteristics of the trading system in general and the financial

system in particular

ii) factors conditioning individual portfolio choices

- Cambridge School abandoned the concept: See Laidler (1999, p.59)

- Empirical studies: David Kinley

- For neo-classical quantity theorists such as Marshall and Fisher the velocity of money is a

variable with its own dynamics independently of the quantity of money; however, Wicksell

took it as a passive variable. Yet, Marshall and Cambridge people are closer to Wicksell than

Fisher is in that they did not presuppose a stability of reserve-deposit and currency-deposit

ratios, as Fisher did (Laidler 1991, p.148).

- Wicksell’s discussion

i) In case of pure cash economy: Defining an individual’s velocity of circulation of money

(or its reciprocal interval of rest) as a ratio of her total payments to total cash holdings and

discussing three determinants of cash holdings, Wicksell concludes that the velocity of

money is almost constant, stable. An important question whether the velocity of money is an

independent or merely a dependent variable is posed first; admitting that it is most reasonable

to think it as dependent on M, Q, P, Wicksell mentions that some institutional, technical

factors set limits to its level (Wicksell 1898, p.54).

ii) Simple credit economy (It has no banking system but only commercial credit and

individual lending. However, the latters do not substitute money. They only accelerate the

circulation of money.): Even though the velocity of money has a much higher elasticity in

simple credit economy than in pure cash economy, it is not elastic enough to invalidate the

QT. The main reason is the loan is not open to anyone but only to those who are wealthy

enough to guarantee their creditworthiness.

iii) Cashless pure credit economy: Two important measures – use of bills of exchange and

development of banking system – do away with those obstacles which set limit for the

acceleration of velocity of money in the simple credit economy. “Notes provide in themselves

the basis for a more or less elastic system of credit, and they circulate with a velocity which is

more or less variable. It is for this reason that it was never possible for even

the older supporters of the Quantity Theory to provide a satisfactory demonstration of the

exact relationship which they held to exist between the price level and the quantity of notes

(and coin)” (Wicksell 1898, p.69-70). Yet, in this chapter (chapter 6) Wicksell does not give

a definite description of the variation of the money velocity and its implication to the QT.

Only towards the end of the chapter does he states that as for the pure credit economy case

where “no money circulates, and for the purpose of domestic trade no money need be kept

reserve”, “the Quantity Theory of Money would appear to be deprived of its very

foundations” (Wicksell 1898, p.76).

- Positive correlation with the interest rate (Wicksell 1898, p.119).

- When neo-classical writers conceived the velocity of money as independent variable with its

own dynamics, Wicksell “postulated that a modern banking system had capacity to render the

velocity of currency a passive variable in the face of real shocks” (Laidler 1991, p.147).

- “Within Keynes’s liquidity preference theory, velocity is uniquely dependent on the rate of

interest” (Rousseas 1986, p.46; See more).

- Relation between financial innovation, interest rate, velocity of money: See Rousseas (1960,

1986), Phillips (1981), Minsky (1957)

* VALUE

- Fisher’s theory of value: Fisher 1911, ch.1-1“Whenever any species of wealth is measured in its physical units, a first step is taken toward the measurement of that mysterious magnitude called "value." Sometimes value is looked upon as a physical and sometimes as a physical phenomenon. But, although the determination of value always involves a psychical process — judgment — yet the terms in which the results are expressed and measured are physical” (Fisher 1911, ch.1).

* VALUE OF MONEY

- Definition:

- Pareto: See Wicksell (1898, p.16),

- For the classical economists (especially 1820s onward), in the commodity-based monetary

system the value of money is pinned down to the cost price of production of metals – as

opposed to the demand and supply principle – in the long run, even though there was a

disagreement on the short-run story; the currency school arguing for the demand and supply

principle and thus for the impact of the quantity of money on price while banking school

rejecting them. The gold discovery in California and Victoria in 1850s supported the currency

school’s case even for the long-run scenario (Laidler 1991, p.12-13).

A difficult point for the modern reader for the first part of the above statement is that for the

classical economists the cost price of production of precious metals was marginal price as

mining was subject to the diminishing rate of return principle and that marginal price requires

the Marshallian demand and supply framework (Laidler 1991, p.10). This very important

point is also mentioned by Wicksell: “Some authors, for instance W. Roscher, attempt to

uphold the Cost of Production Theory of Money on the basis that "the value in exchange of

the precious metals is determined by the cost of producing them from the poorest mines

which must be worked in order to supply the aggregate want of them".

It is rather the Quantity Theory of Money which is involved in such an argument. For the

marginal cost of production is primarily an effect, rather than a cause, in relation to the

exchange value of money. The exchange values of the precious metals might conceivably be

subject to considerable fluctuations in either direction, on account, for instance, of changes in

the demand for money, while the natural conditions that govern their production remained

completely unaltered” (Wicksell 1898, p.33).

- There is an uneasy tension in classical monetary theory between cost of production and

quantity theory explanations of the price level. This tension is resolved through the individual

choice-theoretic approach of marginalist theory (Laidler 1991, p.41). See Ibid, p.51 as well.

- Critique of cost of production theory of value of money: See Wicksell (1898, p.25-27). “The

well-known law that the prices of commodities tend towards their costs of production is

comprehensible only if it refers to relative costs and prices” (27).

- In Fisher (1912, Elementary Principles of Economics, p.133-34), the meaning of the

purchasing power of money is explained in detail in relation to the general price level.

- According to Rossi, conceiving the value of money as determined by the prices, which are

formed in the market tells nothing about the former (Rossi 2001, p.92).

- Rossi criticizes neoclassical’s simulation determination of prices and value of money as

circular (Ibid, p.92).

- Mill’s theory of the value of money is exactly the same of Moseley: “the amount of goods

and of transactions being the same, the value of money is inversely as its quantity multiplied

by what is called the rapidity of circulation” (Mill 1871, p.513-14). However, I have to check

the monetary system Mill is assuming.

- The first exposition of Cambridge cash balance approach – in Marshall (1871, 1887) and

Walras (1886) – appeared in the context of bimetallic controversy. This is true for Fisher’s

work (1894, 1896, 1911). “Though the bimetallic controversy provided part of the

background to the evolution of the quantity theory, however, that evolution mainly involved

the resolution of theoretical tensions in the classical version of that doctrine” (Laidler 1991,

p.52).

- “The Cambridge School and Fisher alike, though the details of their analysis differed, both

developed the quantity theory which they inherited from their classical predecessors into a

general theory of the price level” (Laidler 1991, p.52).

- Classical economists have two views on the value of money: cost of production theory and

quantity theory. An uneasy existence of the two can be found for example in Mill, in whose

view they were complementary to one another; but “his attribution of rising marginal

production costs to mining, along with his lack of clarity about the stock-flow distinction, left

the details of that complementarity unclear. Marshall’s original work of 1871 on money both

clarified and completed Mill’s analysis, and in particular put cost of production

considerations in their proper place” (Laidler 1991, p.54). From Laidler’s subsequent

exposition of this, it seems that Laider is thinking that Marshall solved this by translating the

classical quantity theory into a ‘demand for currency’ theory (i.e. cash-balance approach) and

ending up with an idea that even in the long run the demand and supply principle applies

instead of cost of production. One of the main elements of the solution is a stock-flow

distinction. Laidler (83) writes “Without a firm grasp of the stock flow distinction, it is hard

indeed to put the (rising) marginal cost of extracting new supplies of the precious metals in its

proper place among the factors determining the purchasing power of commodity

money~~~~.”

- In Marshall, as a head of the Cambridge cash balance approach, the emphasis is on the

influence of demand rather than of supply on the value of currency.

- Founding Neoclassical works on the value of money: Friedman (1956), Patinkin (1956) “It

is … argued that the value of money, and, therefore, the level of money prices, reflects, on the

one hand, the preferences of individuals for money as medium of exchange, and, on the other

hand, the relative availability of money” (Nicholas 2011, p.98).

- Nicholas (2011) suggests for Marxian economics to replace the notion of equilibrium price

with reproduction price since: “If… exchange is seen as mediating a division of labour and

facilitating the reproduction of commodities, then equilibrium prices can only be

meaningfully conceived of as those which facilitate the balanced reproduction of

commodities – which is a very different notion of equilibrium prices” (100). “For Marx

equilibrium prices are those which facilitate the reproduction of commodities in the context

of the balanced reproduction of the system” (101). Then for Marx are equilibrium prices the

center of gravity of actual prices?? Nicholas (2011, p.101) says not but the their average.

- Pareto’s definition: See Wicksell (1898, p.16, fn.1)

- Identifying ‘purchasing power’ and ‘value’ of money implies a certain way of defining

money; i.e. money only as a means of exchange or means of purchase. In this understanding,

money’s value lies in its purchasing power. If money as understood as having functions other

than means of exchange, then it would gain value from those functions other than means of

exchange. “Money as such, i.e. so long as it fulfills the functions of money, is of significance

in the economic world only as an intermediary. It is its purchasing power over commodities

that determines its utility and marginal utility, and it is not determined by them” (29).

- “But even though there is nothing to determine or set limits to the exchange value of our

commodity (M), as we have called it, in the market in which it plays the part purely and

simply of a medium of exchange, there is no reason why its exchange value should not be

determined, more or less completely, through the influence of other markets in which it

appears as a commodity proper” (29). This is a very similar reasoning to Foley’s approach to

MELT.

- Short-run vs. Long-run determination of the value of money:

- For Moseley, Marx’s theory of MELT is a long-run theory. Then how would Moseley

reply to Wicksell’s following comments?

- “Now it is precisely changes in prices and fluctuations in the value of money over

relatively short periods—ten, fifteen, or twenty years—which have the most serious

consequences for trade. The more gradual changes—secular they may be called—in the value

of money are of far less importance in this connection, even though they mount up

considerably in the course of centuries. To some extent their interest is purely historical”

(Wicksell 1898, p.33).

- “Monetary theory that dealt with the long run – that which argued that the cost of

producing the commodity serving as a unit of account could not deviate from its purchasing

power – was, in fact, an implementation of the law of one price to money. If a unit of

commodity-money could buy a certain amount of goods through exchange, and the value of

those goods was different from what one had to spend in order to produce a new unit, then

naturally, someone would exploit this difference. In such situation, a long-term process of

arbitrage took place … The value of the unit of account in exchange, that is, its purchasing

power, was determined in the short run via the Quantity Theory. In case of a gap between the

cost of production and the purchasing power, forces worked to exploit the situation….. One

should note that introducing inconvertibility – fiat money or inconvertible paper money –

destroys the links between the long-run and short-run attractors just described….” (Arnon

2010, p.58).

- Wicksell’s critique of commodity money theory and the cost of production theory of the

value of money: “The Cost of Production Theory may appear sufficiently logical, and it may

indeed appear self-evident, but it is just when enlightenment is most urgently needed that this

theory leaves us sadly in the lurch. The treatment of money (or rather of the substance of

which money consists) as a commodity, and the theory of the value of money that is based on

this treatment, lead to almost entirely negative conclusions as soon as we have to deal with

these questions of real practical importance which arise in modern monetary systems. We

must therefore look for other means of elucidation” (Wicksell 1898, p.33). This is very

similar to Foley’s critique of Marx for treating the value of money as the labour value

expended in the production of money commodity in Foley (1983).

- After raising a question what determines the exchange value of money and the general price

level in the pure credit economy, Wicksell says that as for the pure credit economy case

where “no money circulates, and for the purpose of domestic trade no money need be kept

reserve”, “the Quantity Theory of Money would appear to be deprived of its very

foundations” (Wicksell 1898, p.76).

- “So if the argument that fiat money is worthless is as strong as I believe it to be, how does

one answer Hal Varian’s question why is a dollar worth anything?  There are two

possibilities.  First, the real world could be less rational than pure economic logic would

suggest.  I no longer would dismiss this possibility out of hand, as I once did.  But we should

at least recognize that a positive value for fiat money may involve an element of irrationality. 

A positive value for fiat money may be no less a bubble than tulips in 17th century Holland,

or houses in 21st century America.  People may be accepting money in the false expectation

that they will always be able to find some other sucker willing to accept it.  If so, everyone

will eventually realize what’s going on, and the game will be over” (Glasner 2011 Blog)

- Wicksell’s explanation: Wicksell (1898, p.48). Especially p.48-49 seem very important and

similar to Fred but hard to follow.

- In reviewing Grandmont (1982), Patnaik (2009, p.42) writes “Since a positive value of

money today arises because money is expected to have a positive value, and since this

expectation in turn derives from its having had a positive value in the past, the basic question

of why money has a positive value at all remains unanswered. In other words, Grandmont’s

justification of the assumption required for a positive value of money today simply would not

do; it leaves the value of money “hanging by its own bootstraps,” to use Dennis Robertson’s

(1940) famous phrase”. Which means circular reasoning.

- “The value of a security depends on the cash flows that it is expected to pay” (Admati et al.

2011).

- “Addressing financial booms calls for stronger anchors in the financial, monetary and fiscalRegimes” (Borio 2012).

* WICKSELL

- Wicksell special: American Journal of Economics and Sociology 1999 58(3).

- Preface of Wicksell (1898) is a very good summary of the book and its main goal.

- Anti-QT: Laidler (1991, p.141)

- Wicksell’s nuanced view on QT (p.41~):

- First of all, he identifies it with the equation of exchange – which is not correct – and

says that it is a truism, understandably so since the equation of exchange is an identity. Then

he points out its weaknesses as follows:

- QT is based on unrealistic assumptions: i) almost completely individualistic system of

holding cash balances, ii) on average fixed Cambridge k, iii) M in the equation of exchange

includes only cashes excluding money substitutes (This point is overcome by Fisher’s

extended version of equation of exchange), iv) Money in circulation and money in hoards can

be sharply distinguished (Wicksell argues that they cannot be distinguished since money is

hoarded for the sake of future transactions and thus the function of hoarded money is not

different from money in circulation, i.e. means of exchange).

- WICKSELL’S MAIN CONTRIBUTION ON QT: Wicksell basically agrees with QT’s

explanation of price change, i.e. “M -> i -> P” as represented by Ricardo. (His understanding

of QT is based on Ricardo’s.) Then he points out that the weak point of QT is the fact that the

monetary condition is not the only factor the affects prices. That is, i alone cannot affect P

since in order to judge whether i is high or low it needs to be compare with some other

standard level. This standard level is missing in QT. And Wicksell is saying that it is provided

by somewhere else than the money market. Wichsell’s contribution to developing QT is to

introducing the natural rate on capital against which the money rate of interest can be judged

high or low.

- Wicksell’s theory of cycle is closer to Marx-Schumpeter tradition than to neo-classical one

in that it views cycle and crisis not as a monetary phenomenon and not caused by monetary

elements.

- When neo-classical writers conceived the velocity of money as independent variable with its

own dynamics, Wicksell “postulated that a modern banking system had capacity to render the

velocity of currency a passive variable in the face of real shocks” (Laidler 1991, p.147).

- HOW SIMILAR IS WICKSELL’S STATEMENT WITH MINE: “MODERN investigations

in the field of the theory of value have thrown much light on the origin and determination of

the exchange values, or relative prices, of commodities. But they have, unfortunately, done

nothing to promote directly the theory of money—of the value of money and money prices”

(Wicksell 1898, p.18).

- Absolute (artificially determined) vs. relative (naturally determined) price (1898, p.4)

- Production, exchange, and consumption do not affect absolute prices but only relative

prices or exchange value (23). Absolute prices change only by the forces outside of those

three realms, namely the money market (24).

- ENDOGENOUS THEORY OF MONEY: 110-111

- From the way Wicksell uses the words value, exchange-value, we find that Marx and

Neoclassicals have the same concept of price or exchange-value as a ratio between the value

of two commodities in exchange. The difference is the definition of value; i.e. labour vs.

utility. For example, he defines value as “The value of an object is merely the importance that

we ascribe to its possession for the purpose of gratifying our wants” (29).

- Similarly to Fisher, Wicksell points out the peculiarity of money as means of exchange (29).

Remind that Fisher, in explaining why he treats the quantity of money so a special variable

within the equation of exchange, notes that money is a means of exchange.

- Main argument in chapter 4 “The So-Called Cost of Production Theory of Money”: “~~~~It

is just because the metal used in coinage is employed so little for industrial purposes,' and

because, above all, its real consumption proceeds at so small a rate, that the value of money,

at any rate over short periods of time, is not dependent on these factors, but is governed by

quite different laws, which we still have to discuss” (Wicksell 1898, p.34). Wicksell admits

the validity of cost of production approach on two grounds. First, it is valid in the long run.

Second, it is valid when money commodity is used for non-monetary purposes to a

sufficiently large extent. And he dismisses the cost of production approach by trivializing

these two grounds. First, the long run analysis is merely out of a historical interest not of an

urgent practical need. This reminds Keynes’ “in the long run we are all dead”. Second, as

monetary use of money commodity is gradually dwindling and nowadays it is very small, the

theory is becoming useless. The second explanation is based on a misconception on the part

of Wicksell. He conceives that on one that the cost of production theory corresponds to non-

monetary uses of money commodity and on the other hand monetary uses of money

commodity should be explained by something other than the cost of production theory.

However, there is no reason why monetary use of money cannot be explained by the cost of

production theory, and this is how Marx proceeds in chapter 1, volume 1 of Capital. In this

regard, Wicksell notes “In passing, there is a point to be noticed. The growth in the use of

money, and the increase in monetary stocks, tends more and more to reduce the significance

of the commodity characteristics of money. On the other hand, the development of the

monetary system results in a displacement of specie by credit instruments and so-called

money substitutes, and there exists, therefore, an important tendency towards a strengthening

of the commodity aspect of money and of its influence on prices” (Wicksell 1898, p.34).

- On Karl Marx (p.34~)

- Wicksell’s critique of Hilderbrand’s view that even the value of inconvertible

government paper money is determined by that of metallic coin, which entirely disappeared

from the circulation is applicable to the traditional Marxists’ commodity money theory (49).

Right after, he mentions: “It does not appear to me that such a conception has any foundation.

It is not some vague ritual, but the palpable facts of exchange and of credit, of commodity

markets and of the money market, which day by day determine individual commodity prices

and consequently (in a country that has a paper standard) the average purchasing power of the

nation's paper money” (47).

- On Tooke (p.43~):

- As for Tooke’s income theory of price (“income determines price”), Wicksell points out

that the other way round is also possible.

- Tooke’s view on the determination of price has two components: supply-side analysis

based on cost of production theory and demand-side one based on his income theory of price,

which admits the validity of the quantity theory (M increase -> Income increase -> Excess

demand -> P increase). Wicksell notes that Tooke developed only the former. This is a gap in

Tooke.

- As can be verified from his critique of Tooke’s view on QT and also from his comments on

QT’s weakness, Wicksell’s primary goal is to trace out the specific mechanism that governs

the dynamic relation between money and price. See Wicksell (1898, p.44).

- Main argument: “the real cause of the rise in prices is to be looked for, not in the expansion

of the note issue as such, but in the provision by the Bank of easier credit, which is itself the

cause of the expansion” (Wicksell 1898, p.87; see this page more).

- Wicksell’s emphasis on the rate of interest instead of the quantity of money (p.87) reminds

one of PK’s credit view.

- On interest rate, Wicksell has a very similar view with Keynesians that objects to the

conventional view where investment is a negative function of interest rate. See Wicksell’s

discussion on the rate of interest to price (89-93). The main idea is that the short term rate has

no immediate impact on price but the long term rate has.

- Relative prices are subject to stable equilibrium while money prices to neutral equilibrium

(101).

- Monetary circuit approach (104-105): Wicksell here presents the monetary circuit theory to

show i) that money can be dispensable in the capitalist economy, ii) that the ordinary working

of the monetary circuit does not generate any inflationary or deflationary forces (and here

prices refer to money prices not relative prices, which could either increase or decrease

reflecting overall conditions or production and exchange),

- From his discussion on endogenous money concept in p.110-11 Wicksell concludes that

therefore the banks have power to control the price levels and interest rate.

- Summary of chapter 7, 8: p.120.

- Natural rate of interest: Entrepreneurs borrow money capital and buy real capital goods with

it. It can be thought of as they are really borrow those real capital goods since money capital

is just mediating this end. Natural rate of interest on capital is defined as the interest rate

determined by the demand and supply of the real capital goods without a mediation of money.

See p.120, Normal rate of interest: p.100, Their relation: 120.

- Wicksell (1898)’s main point is that traditional QT holds only in commodity money

economy; in his cashless economy model, money is entirely absent. The idea that the validity

of QT depends on the specifics monetary setting is same as mine but the relation is the

opposite. For me, commodity money regime corresponds to anti-QT and inconvertible credit

money to QT.

- Cumulative Process (Interest Rate Policy)

- A critique of Wicksell’s cumulative process and natural rate of interest: Mises pointed

out that banks cannot maintain long the loan rate lower than the natural rate (See Festre

2006). However, Humphrey (2002, p.65) mentions otherwise because “In the pure credit

economy, central bankers theoretically could hold the market rate—which in pure cash and

mixed cash-credit economies tends to converge to the natural rate—below or above that latter

rate forever”.

- Assumptions of the cumulative process model: Humphrey (2002, p.64-65).

- Mechanism of translating the interest rate differential through excess demand finally to

price increase: “A lower market rate stimulates planned investment by raising the present

discounted value of the stream of expected future returns to capital. The rise in this

discounted revenue stream raises the price of capital goods above their replacement cost and

makes it profitable to produce more of them. Furthermore, since the market rate is the

intertemporal relative price of consumption today in terms of consumption sacrificed

tomorrow, a fall in that price induces people to take more of consumption today.

Consumption rises and saving falls, hence the shortfall of saving below investment at lower

than natural interest rates” (Humphrey 2002, p.66).

- In Wicksell’s pure credit economy model, money supply is created entirely as

accommodating money demand by firms – more precisely, deposits instead of money. In

other words, there is no exogenous money supply. Even a quantity theorist Wicksell expert

notes this (Humphrey 2002, p.66). From this it is obvious that the unresolved debate on

whether Wicksell was a quantity theorist notwithstanding, his cumulative process model

departs from the traditional, simplistic QT, where the disturbance from the status quo starts

with changes in the quantity of money. However, Humphrey further argues that even though

excess deposits are impossible the byproduct money stock could possibly be in excess. To

show this, he uses the Cambridge cash balance equation and maintains that since M, Q, k

have not changed those newly created deposits would constitute ‘excess supply of money’,

which the public will not want to hold and thus spend on extra consumptions (Ibid, p.67).

Two errors should be noted. First, in this model, there is no money but only deposits; this is

based on Wicksell’s definition of money which does not include deposit. Second, Wicksell

notes that in the pure credit economy, which is the background of the cumulative process, the

velocity of money is highly elastic which seems to undermine the QT. Which means that k

cannot be taken as stable or constant.

- Wicksell’s interest rate model is at the center-stage of the current macroeconomic monetary

policy debate. Humphrey (1990) traces its origin in Thornton (1802) and Joplin.

- Wicksell’s critique of Marx’s theory on money: See John Cunningham Wood 1994 Knut

Wicksell: Critical Assessments Vol.2, p.86.

- I don’t quite understand why quantity of money is a meaningless concept in pure credit

economy. Number in bank’s account created by bank’s accommodation of credit demand can

definitely be aggregated. Maybe Wicksell is confining ‘money’ of QTM to metallic coins,

hard cash.

- I don’t quite understand Bertocco (2009, p.616)’s explanation of the relation between

loanable funds theory and Wicksell. Read it again.

* TREATISE ON MONEY (KEYNES 1930)

- See Rousseas (1986, p.32~)’s summary.

- Industrial Circulation vs. Financial Circulation;

- Within Industrial Circulation: income deposits vs. business deposits A, the sum of the two

being cash deposits, which are “used exclusively to meet transactions requirements for a

means of payment in that sector” (Rousseas, p.33).

- Within Financial Circulation: business deposits B vs. savings deposits (A & B)

- business deposits B: the volume of trading in financial instruments, i.e. the activity of

financial business”.

- savings deposits A: for personal reasons, extremely stable

- savings deposits B: such as highly liquid negotiable CDs, money market funds,

fluctuates with bulls and bears (““Bears” anticipates a fall in the cash value of financial

securities and increase their holding of savings deposits B, whereas “bulls” represent

movement in the opposite direction from money to securities”) -> Confusing. Speculative

bubbles (bulls) lead to excessive demand for money in the financial sector, no??? This is what

Rousseas himself writes in p.35.

- Demand for money in the financial sector is the sum of income-deposits B and savings-

deposits B

- Total demand for money: combined demand of the industrial and financial sectors – the

motive being means of payment and store of wealth respectively.

- Since while the first demand closely follow the pace of real activity the second demand is

highly unstable, “Keynes demined any stable link between money and the nominal level of

national income” (Rousseas 1986, p.34).

* LAW OF REFLUX

+ CRITIQUE

- Reference for a critique of Kaldor-Trevithick’s reflux mechanism: (Cottrell (1986, p. 17), Palley (1991, p. 397), Chick (1992, p. 205), Dalziel (2001, p. 144, n. 2))

* QUANTITATIVE EASING (QE)

+ Definitions:

- For the banks it is nothing but an asset shift from less liquid to more liquid assets (in most

cases, reserves), the result of which is an increase of balance sheet (since both assets and

liabilities change) size of the central bank.

- “This is where central banks like the US Federal Reserve, the Bank of England or the Bank

of Japan decide to buy billions of government or corporate bonds in the open market from

banks and other financial institutions.” (Michael Roberts)

+ Marxian views:

- When profitability is the main cause the monetary trick will not save the economy.

Michael Roberts represents this opinion: “The lack of demand for credit is the flipside of the

failure of the Keynesian/monetarist policy of ‘quantitative easing’”. “If average incomes and

pensions have lost from QE, are there any winners?  Yes: the BoE puts it rather modestly: “As

with all changes in the stance of monetary policy, the recent period of loose monetary policy

has had distributional consequences, and its benefits have not been shared equally across all

individuals.” .  The BoE found that driving up the value of government and corporate bonds

through QE purchases benefited the rich who hold most of these bonds.”

(http://thenextrecession.wordpress.com/2012/08/25/qe-uk-banks-and-the-economy/)

+ Post Keynesian views

- Ann Pettifor

* ASSET-BASED & OVERDRAFT SYSTEM

- Origin of the distinction: Keynes (Treatise, ch.32), Hicks (1974),

- Following Literature: Renversez (1996), Lavoie (2005),

- Critique of reserve-constraining view: Rochon (1999, ch.6)

+ ASSET-BASED SYSTEM

- Treasury bills (as liquid asset) act as a buffer; central bank advances are an additional

buffer.

+ OVERDRAFT SYSTEM

- In this approach the definition of reserves is wide to include Treasury bills (short-term)

and government bonds (long-term)

* RESERVES

- Nonborrowed reserves: Banks secure nonborrowed reserves through liability management

such as federal funds borrowing, repurchase agreements, issuing certificates of deposits or

similar practices. Central Bank influences the nonborrowed resereves through open market

operation.

- Borrowed reserves: Borrowed from discount window.

* NOTES

- It is now admitted that the quantity of money does not have any meaningful relation with

the macroeconomic performance, and for this reason, the Fed ceased to project ahead the

growth of monetary aggregate. Then how could we understood the Fed’s active intervention

during the current crisis such as QE?

Reference

Adrian, Shin, Hyun Song. 2010. “Liquidity and Leverage”, Journal of Financial

Intermediation 19, pp. 418-437.

Bernanke, Ben 2006, “Monetary Aggregates and Monetary Policy at the Federal Reserve: A

Historical Perspective”, At the Fourth ECB Central Banking Conference, Frankfurt,

Germany.

Goodhart, 1989, Money , Information and Uncertainty.

Laidler, David 1991, The Golden Age of the Quantity Theory, Princeton University Press