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1. Introduction
The relation between money and prices is one of the oldest surviving propositions
in economics. It could be traced back to the mercantilist doctrine. This relation links
directly money to prices. It points out that increases in the quantity of the former
raises the price level in a one to one proportion. This is known as the quantity
theory of money and it nests long-term equilibrium implications. That is to say,
money supply has no influence in real economic variables such as output or
employment in the long-term. It is from this premise that money neutrality is
presupposed. If this proposition holds, money would be restricted as a medium of
exchange and as a standard of value. Therefore, its role as a store of value,
alongside measure of value, would have to be neglected.
The origin of the quantity equation, which formalizes the quantity theory of money,
could be traced back to Bodin in 1566. Is in his reply to Malestroict, who links
French inflation to coin clipping
i.e.
, currency debasement, Bodin argues otherwise.
According to Bodin, inflation was the result of bullion shipments from America,
which in his view have caused a general price acceleration in the two previous
centuries (Graff, 2008). This perspective is also shared by Hume (1742), one of the
most important proponents of the quantitative theory in the XVIII century, where
prices of commodities are always in proportion to the abundance of money.
The quantity equation assumes a dichotomy between a monetary economy and
the real economy. The former is being simply juxtaposed, while not integrated.
Therefore, any change in the former cannot modify the real economic variables. As
a result, an expansion or contraction of the real economy would indeed affect