Monetarism and UK monetary policy<xref ref-type="fn" rid="fn1"><sup>*</sup></xref>

Abstract

The basic contention of monetarists is that there is a stable function of money in relation to income (which comes to the same as saying that there is a stable velocity of circulation, invariant to changes in the quantity of money in circulation). This assertion, first put forward by the early followers of the quantity theory of money in the 18th and 19th centuries, was denied by Keynes and reasserted by Friedman on the basis of statistical evidence which shows a high correlation between changes in the amount of money in circulation and changes in the money value of the national income. Friedman admitted, however, that there is nothing in his findings which logically excluded an interpretation diametrically opposite to his own—i.e., that the change in the money supply may be the consequence, not the cause, of the change in money incomes (and prices), and that the mere existence of time-lag—that changes in the money supply precede changes in money incomes, is not in itself sufficient to settle the question of causality—one cannot rule out the possibility of an event A which occurred subsequent to B being nevertheless the cause of B (the simplest analogy is the rumblings of a volcano which frequently precede an eruption). Apart from that it is notoriously difficult to establish the existence of a lead of one factor over another, when both move in the same direction in time and the whole question of the existence of a 'lag' is by no means established. + In the case of commodity-money, the activities of the mining industry increase the world money supply which is thus determined by factors that are largely independent of the public's demand to hold money. It is possible, therefore (as a result of, say, the discovery of new gold fields), for additional money to appear which will, in its impact effects, cause a fall in its value relative to other commodities until all the new money finds a 'home'—in the increased balances held by some or all money users. If the proportion of income or expenditure which people wish to hold in the form of money balances (the famous k in the Cambridge quantity equation) is rigidly given, and real income (or output) is also given, the only way in which 'new money' can be