Hello and good morning. I’m honored to be among such distinguished company, particularly that of John Taylor, my former Stanford advisor. And I’ll start my talk with a nod to yet another trailblazing monetary thinker. “Inflation is always and everywhere a monetary phenomenon in the sense that it is and can be caused only by a more rapid growth in the quantity of money than in output,” Milton Friedman famously observed. 1 We’re currently putting this theory to the test. The Federal Reserve has more than tripled the monetary base, a major determinant of money supply, in the last four years. According to some analysts, this large expansion of the monetary base will unavoidably lead to significant inflation, as Friedman predicted.
Why is inflation solely a monetary issue?
Only by increasing the supply of money at a faster rate than the rate of rise in output. The quantity theory of money states that prices vary in proportion to the money supply, which supports the idea that inflation is a monetary phenomenon.
What did Milton Friedman mean by saying that inflation is always and everywhere a monetary phenomenon quizlet?
“Inflation is always and everywhere a monetary phenomenon,” observed Milton Friedman, implying that sustained increases in the price level are always the product of money supply growth. The widespread consensus among policymakers is that the economy adjusts slowly.
According to monetary theory, how does inflation occur?
Inflation is caused by an increase in the money supply, according to the monetary theory of inflation. Inflation rises faster as the money supply grows faster. In specifically, a 1% increase in the money supply leads to a 1% increase in inflation. The price level is proportional to the money supply when all other factors remain constant.
Is India’s inflation a monetary phenomenon?
Abstract. Some economists and policymakers argue that “inflation is always a monetary phenomenon,” and that the best strategy to stop growing inflation is to reduce the money supply in the economy.
Is it monetary or fiscal inflation?
As the US economy has slowly recovered from the Great Recession in recent years, a mystery has emerged: where has all the inflation gone? Inflation in the United States remains stubbornly below the Federal Reserve’s goal rate of 2%, despite a record low jobless rate and historically low interest rates. A similar conundrum arose during the Great Recession: What happened to the deflation? Inflation fell slightly, but the deflationary spiral that many feared would emerge once interest rates reached zero did not materialize.
According to John H. Cochrane, a senior scholar at the Hoover Institution and distinguished senior fellow at Chicago Booth, there is an explanation for this that defies traditional economics. Standard economic theory has long claimed that inflation is entirely controlled by monetary policy, but that it has little to do with fiscal policy outside of extreme hyperinflations. According to Cochrane and other economists who have worked on the fiscal theory of the price level (FTPL) for the past 30 years, this orthodoxy is incorrect. Fiscal policy, according to this idea, is a significant driver of inflation.
Cochrane investigates what drove US inflation between 1947 and 2018 using statistics on inflation, monetary and fiscal policy, and economic factors. On the basis of the economic principle that the real value of government debt must be equal to the real present value of primary surpluses that the government is projected to run in the future to pay back the debt, his theory relates inflation to the real value of government debt. (Primary surpluses are the difference between tax receipts and government spending, minus interest payments.)
The Federal Reserve’s interest-rate policy, according to conventional wisdom, totally influences price levels and inflation. Even if deflation raises the value of the debt, Congress and the Treasury are expected to raise or cut taxes and expenditure as needed to pay it off. The real worth of government debt, on the other hand, drives prices in the FTPL, much like the present value of future dividends determines a stock price.
Compare the amount of outstanding debt with the present value of future surplusesand with the discount rate, or return that holders of government debt require, according to Cochrane. Unexpected inflation indicates that investors believe the government will not be able to service its debt due to a lack of surpluses, or that they require a greater return to keep debt. They try to sell government bonds in either event, driving up the price of everything else.
The data revealed a long-standing historical correlation that FTPL experts had been perplexed by: a lower rate of inflation during recessions. Deficits in the United States, for example, grew considerably during the Great Recession as a result of lower tax receipts and greater expenditure, particularly on stimulus and bailouts. Expectations for future surpluses have also dropped. Inflation, on the other hand, fell as investors sought out stable assets like government bonds. Why? Because interest rates have fallen. In the name of safety, investors were ready to hold government bonds and even sold less of everything else to buy them, despite the low yields. A low discount rate translates to a higher real value, which necessitates less inflation.
The discount rate is the most important driver of stock prices, according to research, and the discount rate has also had a key influence in US inflation, according to Cochrane. Unexpected inflation has historically been linked to increases in real interest rates, which reduce the value of debt, and vice versarather than changes in expected surpluses.
Paul De Grauwe, is inflation always and everywhere a monetary phenomenon?
De Grauwe and Polan (2005) used a 30-year data set to look at the relationship between money supply and inflation in 160 nations. The findings reveal that inflation is a monetary phenomenon, with a positive and considerably stronger link between inflation and money growth rate only in nations with high inflation rates.