Velocity Wanted: Fertile Formula of Realities
The rest of us now arrive at Political Economy,
which is more like an art than a science.
As
we discuss earlier, there is only one motive of “money hoarding,” that is, in preparation
for monetary transactions in the near future;
on the flipside, money is useless until we spend it (Irving Fisher from New
Haven, 1930). [Auto-suggestion #1: “Preferred liquidity” is nowhere fluid or current; it always is in forms
of solid legal tender or thin-airy deposits.] [Auto-suggestion #2: The future
is uncertain to everybody except for
certain macroeconomists in the “money market.”]
With
regard to transactions with money, William Baumol from Princeton devises the convenient
formula in “The Transactions Demand
for Cash: an Inventory Theoretic Approach” (1952): Md= (b∙T/ 2i)1/2, where b stands
for financial transaction costs, risk
premiums included, and T for total
monetary expenditures per annum.
The following is sort of recap for
the sake of praying for the Velocity of money (V).
The real trade-off. Assuming that the required money
balance for monetary GDP (YN=
P∙Y)
is a stable fraction of the balance for all expenditures, we can get implicative
relationships from Baumol’s: g= 2m+
Δi/ i – π– Δb/ b.[1]
We additionally affirm that the common denominator Δt, omitted but certainly present in the equation, represents the
same period across all the rates. Simply, all the rates are in % PA.
The
percentage change in the interest-rate level (Δi/ i) due to monetary policy is probably insignificant. The incremental
investment in assets and instruments may not be large enough, vis-à-vis the
annual trade volume, to notably affect the interest rate. In addition, the change
in the transaction costs (Δb/ b) might be assumed away because the
monetary growth (ΔM/ M) would not vary them in a predictable
way.
For
the sake of abstraction, we condense the equation to: g+ π= 2m. Apparently, there is a trade-off between growth (g) and inflation (π): Inflation will be highly probable unless the GDP growth (g) is two (2) times as fast as the monetary growth (m). No wonder at all, the incremental money affects the economy
through a double (2) channel:
Channel
No 4. With the nominal income constant, each shall and does rationally try
to get rid ASAP of the incremental annoyance (ΔM), according to the Fisherian dictum. Suddenly but naturally, the Money in
hand becomes “hot potatos” (from the former American Veep) in the West or “a
bomb” in the East.
Channel
No 5. Notwithstanding individual efforts, all cannot get rid of the aggregate
stock of “hot potatoes.” Due to a gross failure to “get rid of” the aggregate incremental
money (ΔM) of inconvenience, the
speed of turnover rate, aka Velocity of money, shall be lifted (ΔV), instead. Long live the V! [Auto-suggestion #3: This V is not from the former British PM.]
In fine. The Velocity of money is never really to
be disregarded or neglected. Don’t forget to remember: It’s Channel No 5 of the
economy!
One
caveat: The classical quantity equation is a paradigm of thought beyond an “empirical
test” primarily because the “money stock” in the organic economy is never
definable and much less confinable. In a slightly twisted way, money is
everywhere but nowhere.
So
shall the Velocity of money be. Aha, Velocity is just like eau de cologne famously worn
by Marilyn Monroe!
[1]
Let the
fraction be ζ=YN/ T and then the demand for money in
preparation of the nominal GDP M=
(b∙P∙Y/ 2ζ ∙i)1/2.
From this we get Y= 2ζ ∙i∙M2/ b∙P, and consequently
g = 2(ΔM/ M)+ Δi/ i–
π– Δb/ b– Δζ/ ζ
. Most probably, the last term (Δζ/
ζ) is relatively small or
otherwise insubstantial.
Comments
Post a Comment