The Development of the Neutral Money Concept: The Austrian School Further Dehomogenized

Abstract

The concept of neutral money plays a central role in contemporary macroeconomic theory as an implication of the “classical dichotomy” and is also very much a live issue in recent monetary policy discussion revolving around the notion of a “neutral interest rate.” Modern scholars acknowledge that it was Friedrich A. Hayek who was the first economist to employ the term “neutral money” to clearly designate a state of affairs in which money does not exert an active influence on the determination of real variables and whose work in the early 1930’s gave the concept currency among English-speaking economists. The source of Hayek’s conception is usually presumed to be the work of Ludwig von Mises, his acknowledged mentor in monetary and business cycle theory. This paper argues that the basic elements of Hayek’s concept of neutral money were derived from the work of his teacher at the University of Vienna and his formative influence in general economic theory, Friedrich von Wieser and that Mises, following Carl Menger, unequivocally rejected the concept as useless for both theoretical analysis and as a benchmark for formulating a policy standard.