"Inflation is always and everywhere a monetary phenomenon, in the sense that it cannot occur without a more rapid increase in the quantity of money than in output."
~Milton Friedman in his book "Monetary History of the United States 1867-1960," (co-authored with Anna Schwartz)
Exhibit A: See chart above, click to enlarge. Monthly data for CPI and M1 are from the St. Louis Federal Reserve.
The chart has an "observational equivalence" problem. The quantity theory says that inflation happens when money increases faster than output. The real bills doctrine says that inflation happens when money increases faster than the assets backing it. The chart can be explained by both views, and work by Bruce Smith, Thomas Cunningham, Thomas Sargent, etc., has favored the real bills explanation. At the risk of sounding pre-historic, economists should sometimes look at the LOGIC behind theories, and on that basis the real bills doctrine easily defeats the quantity theory.
ReplyDeleteMike Sproul -
ReplyDeleteGreat observation. Precisely why inflation is such a danger when asset bubbles collapse.
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ReplyDeleteWhat about causality?
ReplyDeleteLNM1 does not Granger Cause LNCPI(column 2)
LNCPI does not Granger Cause LNM1(column 3)
Lags.. p-value.. p-value
1..... 0.0000..... 0.0001
2..... 0.1081..... 0.0018
3..... 0.1722..... 0.0071
4..... 0.1974..... 0.0018
5..... 0.2112..... 0.0008
6..... 0.2073..... 0.0014
7..... 0.2848..... 0.0017
8..... 0.3984..... 0.0016
9..... 0.4445..... 0.0028
10.... 0.2635..... 0.0035
11.... 0.1944..... 0.0033
12.... 0.1406..... 0.0063
18.... 0.5218..... 0.0013
24.... 0.5618..... 0.0114
36.... 0.5657..... 0.0856
DLNM1 does not Granger Cause DLNCPI(column 2)
DLNCPI does not Granger Cause DLNM1(column 3)
Lags.. p-value.. p-value
1..... 0.2374..... 0.7041
2..... 0.1211..... 0.5286
3..... 0.1062..... 0.0369
4..... 0.1165..... 0.0079
5..... 0.1371..... 0.0159
6..... 0.2549..... 0.0186
7..... 0.4090..... 0.0113
8..... 0.5347..... 0.0231
9..... 0.5185..... 0.0375
10.... 0.5167..... 0.0280
11.... 0.5351..... 0.0358
12.... 0.7005..... 0.0083
18.... 0.5072..... 0.0107
24.... 0.5446..... 0.0411
36.... 0.6087..... 0.0930
Isn't M1 a narrow measure? what about a broader measure (M2 or M3 correlation)? Hasn't M2 and M3 expanded at a much faster rate than the narrow measure?
ReplyDelete