Monetary theory

Monetary theory

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Encyclopedia
Monetary economics is a branch of economics
Economics
Economics is the social science that analyzes the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek from + , hence "rules of the house"...

 that historically prefigured and remains integrally linked to macroeconomics
Macroeconomics
Macroeconomics is a branch of economics dealing with the performance, structure, behavior, and decision-making of the whole economy. This includes a national, regional, or global economy...

. Monetary economics provides a framework for analyzing money
Money
Money is any object or record that is generally accepted as payment for goods and services and repayment of debts in a given country or socio-economic context. The main functions of money are distinguished as: a medium of exchange; a unit of account; a store of value; and, occasionally in the past,...

 in its functions as a medium of exchange
Medium of exchange
A medium of exchange is an intermediary used in trade to avoid the inconveniences of a pure barter system.By contrast, as William Stanley Jevons argued, in a barter system there must be a coincidence of wants before two people can trade – one must want exactly what the other has to offer, when and...

, store of value
Store of value
A recognized form of exchange can be a form of money or currency, a commodity like gold, or financial capital. To act as a store of value, these forms must be able to be saved and retrieved at a later time, and be predictably useful when retrieved....

, and unit of account
Unit of account
A unit of account is a standard monetary unit of measurement of value/cost of goods, services, or assets. It is one of three well-known functions of money. It lends meaning to profits, losses, liability, or assets....

. It considers how money, for example fiat currency, can gain acceptance purely because of its convenience as a public good
Public good
In economics, a public good is a good that is non-rival and non-excludable. Non-rivalry means that consumption of the good by one individual does not reduce availability of the good for consumption by others; and non-excludability means that no one can be effectively excluded from using the good...

. It examines the effects of monetary system
Monetary system
A monetary system is anything that is accepted as a standard of value and measure of wealth in a particular region.However, the current trend is to use international trade and investment to alter the policy and legislation of individual governments. The best recent example of this policy is the...

s, including regulation of money and associated financial institution
Financial institution
In financial economics, a financial institution is an institution that provides financial services for its clients or members. Probably the most important financial service provided by financial institutions is acting as financial intermediaries...

s and international aspects.

Modern analysis has attempted to provide a micro-based
Microfoundations
In economics, the term microfoundations refers to the microeconomic analysis of the behavior of individual agents such as households or firms that underpins a macroeconomic theory....

 formulation of the demand for money
Liquidity preference
In macroeconomic theory, Liquidity preference refers to the demand for money, considered as liquidity. The concept was first developed by John Maynard Keynes in his book The General Theory of Employment, Interest and Money to explain determination of the interest rate by the supply and demand...

  and to distinguish valid nominal and real monetary relationships for micro or macro uses, including their influence on the aggregate demand
Aggregate demand
In macroeconomics, aggregate demand is the total demand for final goods and services in the economy at a given time and price level. It is the amount of goods and services in the economy that will be purchased at all possible price levels. This is the demand for the gross domestic product of a...

 for output. Its methods include deriving and testing the implications of money as a substitute for other assets and as based on explicit frictions.

Research areas have included:
  • empirical
    Empirical
    The word empirical denotes information gained by means of observation or experimentation. Empirical data are data produced by an experiment or observation....

     determinants and measurement of the money supply
    Money supply
    In economics, the money supply or money stock, is the total amount of money available in an economy at a specific time. There are several ways to define "money," but standard measures usually include currency in circulation and demand deposits .Money supply data are recorded and published, usually...

    , whether narrowly-, broadly-, or index-aggregated, in relation to economic activity
  • debt-deflation and balance-sheet
    Balance sheet
    In financial accounting, a balance sheet or statement of financial position is a summary of the financial balances of a sole proprietorship, a business partnership or a company. Assets, liabilities and ownership equity are listed as of a specific date, such as the end of its financial year. A...

     theories, which hypothesize that over-extension of credit associated with a subsequent asset-price fall amplifies business fluctuations through the wealth effect
    Wealth effect
    The wealth effect is an economic term, referring to an increase in spending that accompanies an increase in perceived wealth.-Effect on individuals:...

     on net worth.
  • monetary implications of the asset-price/macroeconomic relation
  • the importance and stability of the relation between the money supply and interest rates, the price level
    Price level
    A price level is a hypothetical measure of overall prices for some set of goods and services, in a given region during a given interval, normalized relative to some base set...

    , and nominal and real output of an economy
    Economy
    An economy consists of the economic system of a country or other area; the labor, capital and land resources; and the manufacturing, trade, distribution, and consumption of goods and services of that area...

    .
  • monetary impacts on interest rates and the term structure of interest rates
    Yield curve
    In finance, the yield curve is the relation between the interest rate and the time to maturity, known as the "term", of the debt for a given borrower in a given currency. For example, the U.S. dollar interest rates paid on U.S...

  • lessons of monetary/financial history
  • transmission mechanisms of monetary policy
    Monetary policy
    Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...

     as to the macroeconomy
  • the monetary/fiscal policy
    Fiscal policy
    In economics and political science, fiscal policy is the use of government expenditure and revenue collection to influence the economy....

     relationship to macroeconomic stability
  • neutrality of money
    Neutrality of money
    Neutrality of money is the idea that a change in the stock of money affects only nominal variables in the economy such as prices, wages and exchange rates, with no effect on real variables, like employment, real GDP, and real consumption....

     vs. money illusion
    Money illusion
    In economics, money illusion refers to the tendency of people to think of currency in nominal, rather than real, terms. In other words, the numerical/face value of money is mistaken for its purchasing power...

     as to a change in the money supply, price level, or inflation on output
  • tests and testability of rational-expectations
    Rational expectations
    Rational expectations is a hypothesis in economics which states that agents' predictions of the future value of economically relevant variables are not systematically wrong in that all errors are random. An alternative formulation is that rational expectations are model-consistent expectations, in...

     theory as to changes in output or inflation from monetary policy
  • monetary implications of imperfect and asymmetric information and fraudulent finance
  • game theory
    Game theory
    Game theory is a mathematical method for analyzing calculated circumstances, such as in games, where a person’s success is based upon the choices of others...

     as a modeling paradigm for monetary and financial institutions
  • the political economy of financial regulation
    Financial regulation
    Financial regulation is a form of regulation or supervision, which subjects financial institutions to certain requirements, restrictions and guidelines, aiming to maintain the integrity of the financial system...

     and monetary policy
  • possible advantages of following a monetary-policy rule
    Taylor rule
    In economics, a Taylor rule is a monetary-policy rule that stipulates how much the central bank should change the nominal interest rate in response to changes in inflation, output, or other economic conditions. In particular, the rule stipulates that for each one-percent increase in inflation, the...

     to avoid inefficiencies of time inconsistency from discretionary policy
    Discretionary policy
    Discretionary policy is a term used to describe macroeconomic policy based on the ad hoc judgment of policymakers as opposed to policy set by predetermined rules...

  • "anything that central bank
    Central bank
    A central bank, reserve bank, or monetary authority is a public institution that usually issues the currency, regulates the money supply, and controls the interest rates in a country. Central banks often also oversee the commercial banking system of their respective countries...

    ers should be interested in."

Current state of monetary economics


Since 1990, the classical form of monetarism
Monetarism
Monetarism is a tendency in economic thought that emphasizes the role of governments in controlling the amount of money in circulation. It is the view within monetary economics that variation in the money supply has major influences on national output in the short run and the price level over...

 has been questioned. This is because of events which many economists interpret as inexplicable in monetarist terms, especially the unhinging of the money supply growth from inflation in the 1990s and the failure of pure monetary policy to stimulate the economy in the 2001-2003 period. Alan Greenspan
Alan Greenspan
Alan Greenspan is an American economist who served as Chairman of the Federal Reserve of the United States from 1987 to 2006. He currently works as a private advisor and provides consulting for firms through his company, Greenspan Associates LLC...

, former chairman of the Federal Reserve, argued that the 1990s decoupling may be explained by a virtuous cycle of productivity and investment on one hand, and a certain degree of "irrational exuberance" in the investment sector.

Economist Robert Solow
Robert Solow
Robert Merton Solow is an American economist particularly known for his work on the theory of economic growth that culminated in the exogenous growth model named after him...

 of MIT suggested that the 2001-2003 failure of the expected economic recovery should be attributed not to monetary policy failure, but rather to the breakdown in productivity growth in crucial sectors of the economy, most particularly retail trade. He noted that five sectors produced all of the productivity gains of the 1990s, and that while the growth of retail and wholesale trade produced the smallest growth, they were by far the largest sectors of the economy experiencing net increase of productivity. "2% may be peanuts, but being the single largest sector of the economy, that's an awful lot of peanuts."

See also


  • Money
    Money
    Money is any object or record that is generally accepted as payment for goods and services and repayment of debts in a given country or socio-economic context. The main functions of money are distinguished as: a medium of exchange; a unit of account; a store of value; and, occasionally in the past,...

  • Money supply
    Money supply
    In economics, the money supply or money stock, is the total amount of money available in an economy at a specific time. There are several ways to define "money," but standard measures usually include currency in circulation and demand deposits .Money supply data are recorded and published, usually...

  • Monetary base
    Monetary base
    In economics, the monetary base is a term relating to the money supply , the amount of money in the economy...

  • Equation of exchange
    Equation of exchange
    In economics, the equation of exchange is the relation:M\cdot V = P\cdot Qwhere, for a given period,M\, is the total nominal amount of money in circulation on average in an economy.V\, is the velocity of money, that is the average frequency with which a unit of money is spent.P\, is the price...

  • Quantity theory of money
    Quantity theory of money
    In monetary economics, the quantity theory of money is the theory that money supply has a direct, proportional relationship with the price level....

  • Inflation
    Inflation
    In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.When the general price level rises, each unit of currency buys fewer goods and services. Consequently, inflation also reflects an erosion in the purchasing power of money – a...

  • Welfare cost of inflation
    Welfare cost of inflation
    In macroeconomics, the welfare cost of inflation refers to the analyses of changes in social welfare caused by inflation.The traditional approach, developed by Bailey and Friedman , treats real money balances as a consumption good and inflation as a tax on real balances. This approach measures the...

  • Neutrality of money
    Neutrality of money
    Neutrality of money is the idea that a change in the stock of money affects only nominal variables in the economy such as prices, wages and exchange rates, with no effect on real variables, like employment, real GDP, and real consumption....


  • Money illusion
    Money illusion
    In economics, money illusion refers to the tendency of people to think of currency in nominal, rather than real, terms. In other words, the numerical/face value of money is mistaken for its purchasing power...

  • Classical dichotomy
    Classical dichotomy
    In macroeconomics, the classical dichotomy refers to an idea attributed to classical and pre-Keynesian economics that real and nominal variables can be analyzed separately...

  • Income velocity of money
  • Demand for money
  • Liquidity preference
    Liquidity preference
    In macroeconomic theory, Liquidity preference refers to the demand for money, considered as liquidity. The concept was first developed by John Maynard Keynes in his book The General Theory of Employment, Interest and Money to explain determination of the interest rate by the supply and demand...

  • Horizontalism
    Horizontalism
    Horizontalism is an approach to money creation theory pioneered by Basil Moore which states that private bank reserves are not managed by central banks. Instead reserves will be provided on demand at the bank rate set by the central bank...

  • Liquidity trap
    Liquidity trap
    A liquidity trap is a situation described in Keynesian economics in which injections of cash into an economy by a central bank fail to lower interest rates and hence to stimulate economic growth. A liquidity trap is caused when people hoard cash because they expect an adverse event such as...

  • Monetarism
    Monetarism
    Monetarism is a tendency in economic thought that emphasizes the role of governments in controlling the amount of money in circulation. It is the view within monetary economics that variation in the money supply has major influences on national output in the short run and the price level over...


  • Monetary-disequilibrium theory
  • Systemic risk
    Systemic risk
    In finance, systemic risk is the risk of collapse of an entire financial system or entire market, as opposed to risk associated with any one individual entity, group or component of a system. It can be defined as "financial system instability, potentially catastrophic, caused or exacerbated by...

  • Currency crisis
    Currency crisis
    A currency crisis, which is also called a balance-of-payments crisis, is a sudden devaluation of a currency caused by chronic balance-of-payments deficits which usually ends in a speculative attack in the foreign exchange market. It occurs when the value of a currency changes quickly, undermining...

  • Monetary policy
    Monetary policy
    Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...

  • Taylor rule
    Taylor rule
    In economics, a Taylor rule is a monetary-policy rule that stipulates how much the central bank should change the nominal interest rate in response to changes in inflation, output, or other economic conditions. In particular, the rule stipulates that for each one-percent increase in inflation, the...

  • Modern Monetary Theory


General references

  • Handbook of Monetary Economics, Elsevier.
Friedman, Benjamin M.
Benjamin M. Friedman
Benjamin Morton Friedman, a leading American political economist, is the William Joseph Maier Professor of Political Economy at Harvard University. Friedman is a member of the Council on Foreign Relations, the Brookings Institute's Panel on Economic Activity, and the editorial board of the...

, and Frank H. Hahn
Frank Hahn
Frank Horace Hahn is a British economist whose work has focused on general equilibrium theory, monetary theory, Keynesian economics and monetarism...

, ed. , 1990. v. 1 links for description & contents and chapter-outline previews
_____, 1990. v. 2 links for description & contents and chapter-outline previews.
Friedman, Benjamin, and Michael Woodford
Michael Woodford (economist)
Michael Dean Woodford is an American macroeconomist and monetary theorist who currently teaches at Columbia University.-Academic career:...

, 2010. v. 3A & 3B links for description & and chapter abstract & TOC.
  • Boughton, James R., and Elmus R. Wicker, 1975. The Principles of Monetary Economics.
  • Brunner, Karl, and Allan H. Meltzer, 1993. Money and the Economy: Issues in Monetary Analysis, Cambridge. Description and chapter previews, pp. ix-x.
  • Clower, Robert W.
    Robert W. Clower
    Robert Wayne Clower was an American economist. He is credited with having largely created the field of stock-flow analysis in economics and with seminal works on the microfoundations of monetary theory and macroeconomics....

    , ed., 1969. Monetary Theory: Selected Readings, Harmondsworth, Penguin.
  • Eden, Benjamin, 2005. A Course in Monetary Economics: Sequential Trade, Money, and Uncertainty. Description.
  • Goodhart, Charles
    Charles Goodhart
    Charles Albert Eric Goodhart, CBE, FBA is an economist. He was a member of the Bank of England's Monetary Policy Committee from June 1997-May 2000 and a professor at the London School of Economics . He is the developer of Goodhart's law, an economic law named after him...

    , 1989. Money, Information and Uncertainty, 2nd Ed. MIT Press. Description and chapter titles.
  • Handa, Jagdish, 2007. Monetary Economics, 2nd ed. Routledge. Description and preview.
  • Harris, Laurence, 1981. Monetary Theory. New York: McGraw-Hill.
  • Hicks, John R.
    John Hicks
    Sir John Richard Hicks was a British economist and one of the most important and influential economists of the twentieth century. The most familiar of his many contributions in the field of economics were his statement of consumer demand theory in microeconomics, and the IS/LM model , which...

    , 1967. Critical Essays in Monetary Theory, Chapter preview links. Oxford.
  • McCallum, Bennett T., 1989. Monetary Economics: Theory and Policy. Macmillan.
  • The New Palgrave Dictionary of Finance and Money, 1992. 3 v. Description.
  • The New Palgrave Dictionary of Economics
    The New Palgrave Dictionary of Economics
    The New Palgrave Dictionary of Economics , 2nd Edition, is an eight-volume reference work, edited by Steven N. Durlauf and Lawrence E. Blume. It contains 5.8 million words and spans 7,680 pages with 1,872 articles. Included are 1057 new articles and, from earlier, 80 essays that are designated as...

     Online
    , 2008. Abstract links for "Monetary Economics" (alphabetical) and "monetary".
  • Rabin, Alan A., 2004. Monetary Theory MPG Books: London. Arrow-page-searchable chapter previews.
  • Walsh, Carl E., 2003. Monetary Theory and Policy, 2nd ed., MIT Press. ISBN 0-262-23231-6. Description and chapter-preview links.

External links

  • Journal of Money, Credit and Banking
  • Journal of Monetary Economics
  • NBER
    National Bureau of Economic Research
    The National Bureau of Economic Research is an American private nonprofit research organization "committed to undertaking and disseminating unbiased economic research among public policymakers, business professionals, and the academic community." The NBER is well known for providing start and end...

     Working Papers: Links to JEL classes
    JEL classification codes
    Articles in economics journals are usually classified according to the JEL classification codes, a system originated by the Journal of Economic Literature. The JEL is published quarterly by the American Economic Association and contains survey articles and information on recently published books...

    of abstracts or downloads for Macroeconomics and Monetary Economics, including:
(JEL: E4) Money and Interest Rates
(JEL: E5) Monetary Policy, Central Banking, and the Supply of Money and Credit