NBER WORKING PAPER SERIES

DAVID LAIDLER ON MONETARISM

Michael Bordo
Anna J. Schwartz
Working Paper 12593
http://www.nber.org/papers/w12593
NATIONAL BUREAU OF ECONOMIC RESEARCH
1050 Massachusetts Avenue
Cambridge, MA 02138
October 2006
This paper has been prepared for the Festschrift in Honor of David Laidler, University of Western
Ontario, August 18-20, 2006. The views expressed herein are those of the author(s) and do not necessarily
reflect the views of the National Bureau of Economic Research.
2006 by Michael Bordo and Anna J. Schwartz. All rights reserved. Short sections of text, not to
exceed two paragraphs, may be quoted without explicit permission provided that full credit, including
notice, is given to the source.
David Laidler on Monetarism
Michael Bordo and Anna J. Schwartz
NBER Working Paper No. 12593
October 2006
JEL No. E00,E50
ABSTRACT
David Laidler has been a major player in the development of the monetarist tradition. As the monetarist
approach lost influence on policy makers he kept defending the importance of many of its principles.
In this paper we survey and assess the impact on monetary economics of Laidler's work on the demand
for money and the quantity theory of money; the transmission mechanism on the link between money
and nominal income; the Phillips Curve; the monetary approach to the balance of payments; and monetary
policy.
Michael Bordo
Faculty of Economics
Cambridge University
Austin Robinson Building
Siegwick Avenue
Cambridge
ENGLAND CD3, 9DD
and NBER
bordo@econ.rutgers.edu
Anna J. Schwartz
NBER
365 Fifth Ave, 5th Floor
New York, NY 10016-4309
and NBER
aschwartz@gc.cuny.edu
1
1. IntvoductIon

nvId !nIdIor hns nIwnys boon n monofnrIsf nnd wns nn Imorfnnf Inyor In
fho dobnfos mnrkIng fho rIso nnd fnII of fhnf docfrIno. Tho IIfornfuro on fho domnnd
for monoy wns fho focus of hIs rImnry confrIbufIon. Ho dId IonoorIng work on fho
Iong-run domnnd for monoy funcfIon In fho mId-l960s. In fho four odIfIons of hIs
Tle DenonJ for Mone, from l969 unfII l993 ho ncfod ns fho mnjor domo of fho
IIfornfuro. Indood hIs work wns nf fho honrf of fho dIscussIons ovor fho Iong-run
nnd shorf-run domnnd for monoy funcfIon, fho sfnbIIIfy of monoy domnnd, fho
mIssIng monoy conundrum, fho buffor sfock nronch, nnd fho rosurrocfIon of Iong-
run monoy domnnd. Ho nIso workod onorgofIcnIIy In fho l960s ,?0s nnd 80s on fho
koy monofnrIsf fhoorofIcnI Issuos of fho frnnsmIssIon mochnnIsm of monofnry
oIIcy, fho shorfcomIngs of fho IS-!M modoI, fho shorf-run nnd Iong-run IhIIIIs
curvo, nnd fho monofnry nronch fo fho bnInnco of nymonfs.
In nddIfIon fo hIs work In monofnry nnd mncro fhoory nnd fho oconomofrIc
ovIdonco, !nIdIor hnd Imorfnnf InsIghfs In monofnry oIIcy. HIs vIows ovoIvod from
sfrong ndvocncy of IrIodmnn`s l960 consfnnf growfh rnfo ruIo (CC!) In fho l960s,
fo ndvocncy of monofnry fnrgofIng nnd fho cnso for grndunIIsm In fho l9?0s; In fho
80s, ho suorfod fho cnso for consfrnInod dIscrofIon, In fho 90s, fho cnso for confrnI
bnnk Indoondonco nnd InfInfIon fnrgofIng, nnd fodny, fho cnso for uffIng M bnck
Info monofnry oIIcy. In fho rosf of fho ossny wo rovIow nvId !nIdIor`s work on
onch of fho nbovo foIcs.

2. TLe emund Iov Money und tLe QuuntIty TLeovy oI Money

2
Much of nvId !nIdIor`s onrIy work wns bnsod on MIIfon IrIodmnn`s modorn
qunnfIfy fhoory of monoy (MQT) (IrIodmnn l956). AccordIng fo fho MQT, nomInnI
Incomo nnd fho rIco IovoI woro doformInod by fho InforncfIon of monoy suIy nnd
monoy domnnd. Monoy suIy wns nssumod fo bo doformInod by fho oxogonous
forcos of fho monofnry sfnndnrd, monofnry nufhorIfy ncfIons, nnd fho bnnkIng
sysfom. Monoy domnnd fho communIfy`s dosIrod hoIdIngs of ronI cnsh bnInncos--
wns osIfod n sfnbIo funcfIon of n IImIfod numbor of Imorfnnf oconomIc vnrInbIos
IncIudIng n scnIo vnrInbIo (ormnnonf ronI Incomo or wonIfh, sovornI rnfos of rofurn
IncIudIng fho yIoIds on socurIfIos (bofh Iong nnd shorf run), fho own rofurn on
monoy nnd fho rofurn from goods nnd sorvIcos (fho oxocfod rnfo of InfInfIon). CIvon
n sfnbIo domnnd funcfIon, chnngos In nomInnI Incomo nro doformInod by chnngos In
fho qunnfIfy of monoy. In fho shorf run, In fho fnco of nomInnI rIgIdIfIos, chnngo In
monoy Imncfs ronI oufuf, In fho Iong run chnngos In monoy nro fuIIy rofIocfod In
chnngos In fho rIco IovoI.
IrIodmnn vIowod monoy ns n durnbIo good yIoIdIng n fIow of sorvIcos ovor
fImo. AccordIng fo !nIdIor (l982) IrIodmnn`s nronch dIfforod mnrkodIy from fho
rovnIIIng KoynosInn vIow whIch omhnsIzod fho mofIvos for hoIdIng monoy.
IrIodmnn chnngod fho quosfIon from why monoy Is hoId fo gIvon fhnf monoy Is
hoId, whnf nro Ifs omIrIcnI doformInnnfs.
l
ThIs Iod fo nn onormous body of
rosonrch bogInnIng wIfh IrIodmnn (l959) osfImnfIng fho nrnmofors of n sfnbIo
monoy domnnd funcfIon.

1
Later Laidler (1997a) departed from the durable view approach. He argued that it abstracts from its social function
as a medium of exchange and a unit of account.
3
!nIdIor`s rosonrch In fho l960s wns nf fho honrf of fhIs InvosfIgnfIon (!nIdIor
l966 n nnd b). Ho oxfondod IrIodmnn`s orIgInnI monoy domnnd funcfIon whIch
found n sfnbIo Iong-run roInfIonshI bofwoon ronI cnsh bnInncos nnd ormnnonf
Incomo,
2
nnd !nfnno`s work (l954) whIch found nn Invorso roInfIonshI bofwoon
monoy bnInncos nnd fho Iong-form Inforosf rnfo, fo roduco n sfnbIo Iong-run
roInfIonshI for sovon docndos bofwoon ronI monoy bnInncos, ormnnonf Incomo nnd
bofh shorf-form nnd Iong-form Inforosf rnfos for fho !.S.
3
!nIdIor nIso wns InvoIvod
In fho confrovorsy ovor fho shorf-run domnnd for monoy funcfIon whIch rngod In fho
l960s nnd ?0s. IrIodmnn`s monoy domnnd funcfIon wns osfuInfod ns n Iong-run
oquIIIbrIum roInfIonshI In whIch ngonfs` dosIrod hoIdIngs of ronI cnsh bnInncos
oqunIod fhoIr ncfunI hoIdIngs. Chow (l966) nnd ofhors Infroducod n vnrInnf concof
of shorf-run monoy domnnd nccordIng fo whIch If mny bo cosfIy for ngonfs fo ndjusf
fhoIr dosIrod monoy hoIdIngs fo chnngos In fho monoy sfock or fo chnngos In fho
nrgumonfs of monoy domnnd. Chow`s socIfIcnfIon InvoIvod nddIng n Inggod ronI
bnInnco form fo fho Iong-run monoy domnnd funcfIon. Iy so doIng, ono couId
osfImnfo fho sood of ndjusfmonf bofwoon fho shorf run nnd Iong run.
Tho shorf-run vorsIon of fho domnnd for monoy funcfIon wns usod by mnny
ndvnncod counfry confrnI bnnks ns n koy comononf In fhoIr monofnry oIIcy
sfrnfogIos bogInnIng In fho onrIy l9?0s. Howovor, ns onrIy ns l9?3 CoIdfoId
rosonfod ovIdonco showIng InsfnbIIIfy In fho shorf-run monoy domnnd funcfIon

2
Meltzer (1963) using wealth instead of permanent income obtained similar results.
3
A large number of studies surveyed in various editions of Laidlers Demand for Money found powerful evidence
on the long-run stability of money demand. This evidence, as well as the case made by Friedman and others,
including Laidler for the UK (1976) of the role of monetary expansion in explaining the great inflation of the late
1960s and 1970s led to the adoption of monetary aggregate targeting in the US and many countries (to be discussed
below).
4
usod by fho Iod. ThIs fIndIng ns woII ns ofhors by hIm-o.g., Tho Cnso of fho MIssIng
Monoy ( l9?6) survoyod In !nIdIor (l980) wns usod fo mnko fho cnso ngnInsf fho
monofnrIsf nronch fo fnrgofIng monofnry nggrognfos. !nIdIor In n numbor of
ubIIcnfIons (!nIdIor l980, l982, l984) omhnsIzod fhnf fho robIoms wIfh monoy
domnnd woro InrgoIy robIoms wIfh fho shorf-run ndjusfmonf mochnnIsm.
4

!nIdIor (l984, l990) osIfod nn nIfornnfIvo nronch fo modoIIng shorf-run
monoy domnnd bnsod on fho rocnufIonnry mofIvo for hoIdIng monoy. Ho nrguod
fhnf In fho shorf run ngonfs couId bo vIowod ns boIng off fhoIr Iong-run domnnd
curvos nnd cnsh bnInncos couId bo vIowod ns n buffor sfock whIch ngonfs hoId whIIo
fho rIco IovoI nnd fho ofhor nrgumonfs of monoy domnnd ndjusf. IvIdonco by
Hondry nnd ofhors (l99l), who usod coInfogrnfIon fochnIquos fo IsoInfo Iong-run
oquIIIbrIum roInfIonshIs bofwoon ronI bnInncos nnd ronI Incomo nnd Inforosf rnfos,
nnd nn orror corrocfIon fochnIquo fo nscorfnIn fho fomornI ndjusfmonf soods of
fhoso vnrInbIos, rovIdod suorfIng ovIdonco for hIs vIow.

3. TLe TvunsmIssIon MecLunIsm on tLe IInks Between Money und NomInu!
Income

nvId !nIdIor sfudIod frnnsmIssIon mochnnIsms fo Ionrn why chnngos In fho
qunnfIfy of monoy woro mIrrorod In chnngos In nomInnI Incomo, nnd fo doformIno
how fho chnngo In nomInnI Incomo wns dIvIdod bofwoon chnngo In fho rIco IovoI
nnd chnngo In ronI Incomo. How dId fho bohnvIor of fIrms nnd housohoIds rosond
fo chnngos In fho qunnfIfy of monoy !nIdIor`s vIows nf fho fImo, In fho l9?0s nnd
80s, woro nIIIod fo fhoso of Irunnor nnd MoIfzor, IrIodmnn, nnd IhoIs rnfhor fhnn

4
Although work by Bordo and Jonung (1978, 1987, 1990), discussed by Laidler, found extensive long-run evidence
that institutional changes also shifted the long-run money demand function.
5
wIfh fho vIows of fhoso IdonfIfIod wIfh KoynosInn orsocfIvos. Ho wns n consIsfonf
crIfIc of modoIs, IncIudIng muIfIoqunfIon oconomofrIc modoIs curronf nf vnrIous
oInfs In fImo.
!nIdIor (l9?8,l982) roorfod on work on fho frnnsmIssIon mochnnIsm In
forms of ono vnrInfIon or nnofhor on fho IS-!M modoI. Tho modoI wns concornod
wIfh fho doformInnfIon of nggrognfo domnnd.
!nIdIor obsorvod fhnf fho roosIfIon fhnf fho sfrucfuro of fho oconomy Is
Indoondonf of fho oIIcy ndofod hns boon chnIIongod, buf fho roosIfIon Is n
bnsIc romIso of rosonrch on fho frnnsmIssIon mochnnIsm.
!nIdIor furnod fo fho dIscussIon of monoy, fIrsf omIffIng qunnfIfnfIvo
sIgnIfIcnnco of Ifs offocfs. IIrms nnd housohoIds hoId vnrIous nssofs, ono of whIch Is
monoy whoso sorvIcos yIoId dImInIshIng mnrgInnI ufIIIfy or roducf. In nn oconomy
InIfInIIy In nssof oquIIIbrIum, nn Incronso In fho qunnfIfy of monoy dIsoquIIIbrnfos
fho sfrucfuro of nssof hoIdIng bocnuso fho ImIIcIf yIoId on monoy docIInos.
SubsfIfufIon from monoy fo ofhor nssofs fnkos Inco, drIvIng down fhoIr rnfos of
rofurn. Somo rnfos of rofurn nro obsorvnbIo, ofhors nro ImIIcIf, such ns rnfos of
rofurn on consumor durnbIos.
!nIdIor fhon doscrIbod fho gonornIIy nccofod vorsIon of fho fIrsf sfngo of fho
frnnsmIssIon rocoss. A gonornI fnII In rnfos of rofurn Is nn Incronso In fho rosonf
vnIuo of fho Incomo sfronm yIoIdod by oxIsfIng nssofs nnd fhus n rIso In fhoIr
mnrkof vnIuos roInfIvo fo fho suIy rIco of nowIy roducod nssofs. ThIs
dIsoquIIIbrIum oIIcIfs nn Incronso In oufuf of durnbIos, bofh consumor nnd
roducor. In nddIfIon, fho rIco of curronf consumfIon In forms of fufuro
6
consumfIon forogono fnIIs, so oxondIfuro on non-durnbIos mny nIso Incronso. In nn
IS-!M modoI, fho offocfs on whnfovor fho cnfogory of oxondIfuro nro nmIIfIod by n
muIfIIIor rocoss fhnf Is nrfInIIy offsof by subsoquonf Inforosf rnfo rosonsos.
Thoro Is dIsngroomonf nbouf fho qunnfIfnfIvo sIgnIfIcnnco of fho oxondIfuro
offocfs of fho frnnsmIssIon rocoss. In fho l950s nnd l960s, fho Inforosf sonsIfIvIfy
of Invosfmonf ns fho koy fo fho frnnsmIssIon mochnnIsm wns n gonornIIy nccofod
vIow fhnf hns sInco rocodod, nIfhough somo IrIfIsh oconomIsfs In l980 sfIII
rognrdod If ns fho crIfIcnI IInk.
!nrgo-scnIo oconomofrIc modoIs hnvo froquonfIy omIffod monofnry vnrInbIos
from oxondIfuro funcfIons wIfh fho oxcofIon of fIrms` Invosfmonf docIsIons,
nnrrowIng fho chnnnoIs fhoy InvosfIgnfo. Thoy dIscovor onIy wonk IInks bofwoon
monoy nnd oconomIc ncfIvIfy.
!nIdIor (l982, ll5-ll?) summnrIzod sfudIos usIng dIfforonf sfnfIsfIcnI
mofhodoIogIos on fho monoy-Incomo roInfIonshI, concIudIng fhnf n cIonr-cuf
corroInfIon Is onsIor fo fInd for fho !S fhnn for Cnnndn or IrIfnIn, buf nn IS-!M
fyo of frnnsmIssIon mochnnIsm Is ns hnrd fo In down for fho !S ns for ofhors. Ho
commonfod on sfudIos of fho Imorfnnco of monofnry fncfors In InfIuoncIng busInoss
Invosfmonf In fIxod Innf nnd oquImonf fhnf show Invosfmonf rosonds fo Inforosf
vnrInfIons. Thoso sfudIos hnvo fInws, nccordIng fo crIfIcs.
!nIdIor ondod hIs commonfnry on vnrIous nronchos fo IInkIng monoy or
Inforosf rnfos fo oxondIfuro In dIfforonf counfrIos In fho fhroo docndos sInco fho
l950s by IIsfIng fhroo shorfcomIngs of fho IS-!M modoI I) If doos nof donI
ndoqunfoIy wIfh fho dIvIsIon of nomInnI Incomo bofwoon ronI Incomo nnd rIcos; II)
7
If Ignoros IInkngos bofwoon fho govornmonf budgof nnd fho bohnvIor of fho monoy
suIy; III) If Is n modoI of n cIosod oconomy. Thoso shorfcomIngs cnsf doubf nbouf
fho ovIdonco fhnf ho hnd fhus fnr consIdorod nbouf fho frnnsmIssIon mochnnIsm.
ConfInuIng hIs dIscussIon of fho IS-!M modoI, !nIdIor nddod fhnf If hoIds fho
rIco IovoI consfnnf, nnd doformInos fho IovoI of ronI Incomo. In ndnfIng If fo fho
doformInnfIon of nomInnI Incomo, n common rncfIco hns boon fo roInco ronI
vnrInbIos wIfh nomInnI onos, on fho nssumfIon fhnf fho wny In whIch vnrInfIons In
fho qunnfIfy of monoy nffocf nomInnI Incomo Is Indoondonf of fho bronkdown of
chnngos In nomInnI Incomo bofwoon chnngos In rIcos nnd chnngos In ronI Incomo.
In fncf, howovor, how much nomInnI Incomo wIII chnngo In rosonso fo n
gIvon chnngo In fho qunnfIfy of monoy doonds uon how much of fhnf chnngo
occurs In ronI Incomo nnd how much In fho rIco IovoI. ThIs ImIIos fhnf fho
mochnnIsms whIch doformIno fho InforncfIon of rIcos nnd oufuf musf bo nn
InfogrnI nrf of fho frnnsmIssIon mochnnIsm whIch IInks fho qunnfIfy of monoy fo
nomInnI Incomo (!nIdIor l982, l50). A moro fundnmonfnI ronson for rognrdIng rIco
nnd oufuf InforncfIon ns nrf of fho frnnsmIssIon mochnnIsm nrIsos from nnnIysIs
of fho rnfIonnI oxocfnfIons hyofhosIs, dIscussod by !nIdIor nf n Infor oInf.
Tho oxocfnfIons nugmonfod IhIIIIs curvo hns bocomo fho conforIoco of
modoIs donIIng wIfh rIco nnd oufuf InforncfIon. In fho IIfornfuro fhoro nro fwo
nIfornnfIvo nccounfs. Ono Inforrofs fho roInfIonshI In oquIIIbrIum forms, fho
ofhor In dIsoquIIIbrIum forms. !nIdIor fInds fho Idon of n frnnsmIssIon mochnnIsm
hnrd fo squnro wIfh fho oquIIIbrIum InforrofnfIon of fho curvo, orIgInnIIy roosod
by IrvIng IIshor In l926, nnd ndofod by !ucns, Snrgonf, nnd Inrro, In !nIdIor`s
8
doscrIfIon, ns fho noo-AusfrInn nronch fo mncrooconomIcs. If mnrkof cIonrIng
rIcos woro nIwnys doformInod by fho InforsocfIon of nggrognfo domnnd nnd
nggrognfo suIy curvos, If wouId bo ImossIbIo for dIscronncIos bofwoon domnnd
nnd suIy rIcos fo occur nnd orffoIIo dIsoquIIIbrIn undorIyIng fho nggrognfo
domnnd sIdo wouId nof nrIso. Tho frnnsmIssIon mochnnIsm wouId bo fhnf of
WnIrnsInn gonornI oquIIIbrIum oconomIcs. Thoroforo, somo dogroo of rIco sfIckInoss
Is roquIrod fo rovonf mnrkofs cIonrIng nnd fo sof n dIsoquIIIbrIum frnnsmIssIon
mochnnIsm fo work. !nIdIor ndds fhnf If cnnnof bo cInImod fhnf fhIs InforrofnfIon
hns woII-osfnbIIshod mIcro foundnfIons, buf If hns fho ndvnnfngo of fronfIng rIcos
ns boIng sof by fIrms rnfhor fhnn by mnrkofs domInnfod by socInIIsf rIco soffors
(!nIdIor l988).
Inch fIrm In fho oconomy forms nn oxocfnfIon of fho rIco If musf chnrgo fo
mnInfnIn consfnnf Ifs ronI IovoI of snIos. Suoso onch fIrm sofs Ifs ncfunI rIco
nbovo or boIow fhnf IovoI doondIng on whofhor If wnnfs fo confrncf or Incronso Ifs
IovoI of snIos. Ior fho oconomy ns n whoIo somo IovoI of oufuf nnd snIos oxIsfs nf
whIch fho numbor of fIrms fhnf wnnf fo oxnnd jusf oqunIs fho numbor fhnf wnnf fo
confrncf. Af fhnf oufuf IovoI fho gonornI rIco IovoI Indox rosuIfIng from fho
IndIvIdunI fIrms` rIco-soffIng bohnvIor wIII oqunI nn Indox of rIcos fhoy oxocfod
wouId koo fhoIr snIos consfnnf. If oufuf nnd snIos oxcood fhIs IovoI, fhoro wIII bo n
roondornnco of fIrms wnnfIng fo confrncf, so fho ncfunI rIco IovoI wIII bo nbovo
fho oxocfod rIco IovoI.
An Incronso In fho qunnfIfy of monoy Ionds fo nn Incronso In domnnd for
goods nnd sorvIcos nf nny rIco IovoI. Tho Incronsod domnnd, nmIIfIod by n
9
muIfIIIor rocoss Ionds fo n hIghor IovoI of ronI oufuf nnd ronI snIos. Tho numbor
of fIrms wnnfIng fo confrncf Incronsos. Thoy fnco qunnfIfy dIsoquIIIbrIn. As fhoso
fIrms rovIso uwnrd fho rIcos fhoy sof for fhoIr IndIvIdunI roducfs, fho rIco IovoI
wIII rIso roInfIvo fo Ifs oxocfod IovoI.
An nIfornnfIvo doscrIfIon of fhIs rocoss Is fho rosonso fo n hIghor fhnn
oquIIIbrIum qunnfIfy of monoy. If cnusos nffomfs fo subsfIfufo ofhor nssofs nnd
curronf consumfIon for monoy. ThIs bohnvIor by housohoIds Incronsos fIrm snIos. If
oufuf doos nof ImmodInfoIy Incronso, InvonforIos docIIno, fIrm hoIdIngs of monoy
nnd frndo crodIf rIso. Tho fIrm Incronsos rIcos ns nn InfogrnI nrf of Ifs rosonso fo
fho nssof dIsoquIIIbrIum.
!nIdIor (l9?5b) rovIowod rosonrch on InforncfIon of monoy wngos nnd
unomIoymonf, onrIy rosonrch fronfIng fho suIy of Inbor nnd omIoymonf ns n
osIfIvo funcfIon of fho dIfforonco bofwoon ncfunI nnd oxocfod IovoI of monoy
wngos. Ixocfod monoy wngos doond on oxocfnfIons nbouf fho rIco IovoI nnd
Inbor roducfIvIfy, nII unomIoymonf on fhIs nronch boIng of fho voIunfnry sonrch
fyo. IhoIs` (l968) orIgInnI nccounf of monoy wngo unomIoymonf InforncfIon hns
fIrms formIng oxocfnfIons nbouf fho IovoI of monoy wngos fhnf wIII mnInfnIn
consfnnf omIoymonf, soffIng wngos nbovo or boIow fhnf IovoI doondIng on
whofhor fhoy wnnf fo oxnnd or confrncf fhoIr Inbor forco. A nnfurnI IovoI of sonrch
unomIoymonf omorgos In whIch fhoro Is oqunIIfy bofwoon oxocfod nnd ncfunI
wngos on bofh sIdos of fho mnrkof. In IhoIs` onrIy work (l968), unomIoymonf
vnrIos ns n rosuIf of voIunfnry quIfs. In hIs Infor work, fhIs Is no Iongor fho cnso, ns
monoy wngos nro fIod down by Iong-form confrncfs (IhoIs nnd TnyIor l9??).
10
In Mussn`s rosonrch (l9?6), fho numbor of omIoyoos nnd mnn hours workod
or omIoyoo nro vnrInbIos, choson by fho fIrm nIong wIfh wngos, rnfhor fhnn
rosonsos by fho suIy of Inbor fo wngos sof by fho fIrm. !nIdIor found fhIs
nronch n comIomonf fo fho confrncfs IIfornfuro ns n bnsIs for gonornfIng wngo
nnd rIco rIgIdIfy fo ormIf dovInfIons of unomIoymonf from fho nnfurnI IovoI fo bo
Inforrofod ns InvoIunfnry. Thnf condIfIon wouId nrIso from rnfIonnI bohnvIor, nof
In fho fnco of nrbIfrnry wngo rIgIdIfy, buf In fho fnco of n fnIIuro of wngos fo fnII fnsf
onough fo koo fho Inbor mnrkof cIonrod, whon ndjusfmonf cosfs nnd ofhor fncfors
mnko If rnfIonnI for ngonfs fo sof wngos by confrncf for oxfondod orIods (!nIdIor
l9?5, l9?8, l990).
!nIdIor (l9?5n, l9?5b) fhon rocoodod fo roInco fho consfnnf oxocfod rIco
IovoI ImIIcIf In fho IS-!M modoI wIfh InfInfIonnry oxocfnfIons ns roxImnfo
doformInnnfs of fho bohnvIor of rIcos. Ho frncod fho consoquoncos of nn Incronso
In fho monofnry oxnnsIon rnfo occurrIng whon fho oconomy Is InIfInIIy In n fuII
oquIIIbrIum sIfunfIon. Ho fIrsf nffrIbufod fho formnfIon of oxocfnfIons of InfInfIon
fo obsorvnfIon of fho fImo nfh of ncfunI InfInfIon nnd oxfrnoInfIng from If In such
n wny ns fo onsuro fhnf, If n consfnnf InfInfIon rnfo orsIsfs ovor fImo, fho oxocfod
InfInfIon rnfo wIII como Info oqunIIfy wIfh If.
If nn Incronso In fho rnfo of oxnnsIon of fho monoy suIy oxcoods fhnf
nocossnry fo vnIIdnfo nnfIcInfod InfInfIon, If wIII Iond fo n buIId-u of ronI monoy
bnInncos whoso ImIIcIf rnfo of rofurn wIII bogIn fo fnII roInfIvo fo fhnf on ofhor
nssofs. A rocoss of subsfIfufIon Info ofhor nssofs nnd Info curronf consumfIon wIII
11
bo sof In mofIon, wIfh Inforosf rnfos, bofh obsorvnbIo nnd unobsorvnbIo, fnIIIng. Tho
Incronso In curronf roducfIon fhnf onsuos wIII sof In mofIon n muIfIIIor rocoss.
As roducfIon nnd omIoymonf Incronso, fIrms fond fo rnIso fhoIr rIcos, nnd
monoy wngos rIso fo IovoIs In oxcoss of fho vnIuos fhoso vnrInbIos woro InIfInIIy
oxocfod fo fnko. ThIs InvoIvos nn Incronso In fho ncfunI InfInfIon rnfo roInfIvo fo
fho oxocfod rnfo. In fImo, fho ncfunI InfInfIon rnfo InfIuoncos fho oxocfod rnfo, so
fho Inffor nIso bogIns fo rIso. Two InforroInfod offocfs on vnrInbIos InvoIvod In fho
frnnsmIssIon mochnnIsm foIIow. Ono Is uwnrd rossuro on fho rnfos of Inforosf
whIch nssofs donomInnfod In nomInnI forms bonr; fho ofhor Is nn Incronso In fho
oorfunIfy cosf of hoIdIng monoy. ThIs ncconfunfos fho orffoIIo dIsoquIIIbrIum
whIch sofs goIng fho fIrsf sfngo of fho frnnsmIssIon mochnnIsm. If nIso nccoIornfos
furfhor fho InfInfIon rnfo fhrough Ifs offocf on rIco-soffIng bohnvIor. Tho rocoss Is
sfnbIo nnd fho now oquIIIbrIum fo whIch fho oconomy wIII ovonfunIIy movo nnd fho
nfh by whIch If Is ronchod cnn bo doscrIbod, ns !nIdIor doos.
Af fho now oquIIIbrIum, IIko fho InIfInI ono, fho oconomy wIII oornfo wIfh
oufuf nof nf Ifs nnfurnI IovoI, Tho oxocfod rnfo of InfInfIon wIII bo hIghor, so fho
qunnfIfy of ronI bnInncos hoId by fho ubIIc wIII bo smnIIor. If monoy Is nof suor-
noufrnI, I.o., fho nnfurnI oufuf IovoI Is nof Indoondonf of fho InfInfIon rnfo, ronI
rnfos mIghf bo oIfhor hIghor or Iowor. In oIfhor ovonf, n hIghor nnd moro rnIdIy
rIsIng voIumo of nomInnI oxondIfuro wouId bo nccomnnIod by hIghor nomInnI
Inforosf rnfos. urIng fho frnnsIfIon fo Iowor ronI bnInncos, fho rnfo of InfInfIon
musf oxcood fho rnfo of monofnry oxnnsIon nnd mIghf foIIow n cycIIcnI nfh. If
12
nomInnI Inforosf rnfos nf fIrsf fnII buf ond u hIghor fhnn InIfInIIy, fhoy musf on
nvorngo rIso durIng fho frnnsIfIon.
!nIdIor (l9?5n) dofondod fho roosIfIons of fho oconomy`s now oquIIIbrIum
ns suorfod by omIrIcnI ovIdonco. Tho nssumfIon fhnf fho rIncInI doformInnnf
of fho oxocfod InfInfIon rnfo Is fho ncfunI InfInfIon rnfo hns boon chnIIongod by fho
rnfIonnI oxocfnfIons nronch. If nrguos fhnf rnfIonnI oconomIc ngonfs wIII nof
mnko sysfomnfIc orrors. Thoy wIII ncf ns If fhoy form fhoIr oxocfnfIons nbouf fho
InfInfIon rnfo by usIng fho forocnsf fhnf wouId bo yIoIdod by n corrocf modoI of fho
oconomy In whIch fhoy nro oornfIng nnd ns If fhoy oxocfod ovory ofhor ngonf In
fho oconomy fo form hIs or hor oxocfnfIons fho snmo wny.
Tho nronch downInys fho oInf fhnf gnfhorIng nnd rocossIng InformnfIon
Is cosfIy; nnd mnny ngonfs mIghf nof fInd If worfhwhIIo fo comufo fho ofImnI
forocnsf of fho InfInfIon rnfo. Agonfs nro nof nufomnfIcnIIy ondowod wIfh knowIodgo
of fho oconomy`s sfrucfuro, so IonrnIng nbouf If musf bo nn ongoIng rocoss. If
ngonfs nro bound by Iong-form confrncfs, fhoy wIII bo unnbIo fo ncf on now
InformnfIon; howovor, If nffocfs fhoIr vIow of fho fufuro. To ncf uon fho oxocfnfIon
of fho InfInfIon rnfo nnd nnfIcInfo fho bohnvIor of fho InfInfIon rnfo Is nof onsy.
!nIdIor nddod fhnf undor rnfIonnI nnfIcInfIons, nny chnngo In fho monofnry
oxnnsIon rnfo, unnccomnnIod by nn nrorInfo sfo chnngo In fho IovoI of fho
monoy suIy, wIII Iond fo nn InsfnnfnnoousIy oxIosIvo InfInfIon or dofInfIon unIoss
fho monoy mnrkof Is cIonrod by nn Insfnnfnnoous nnd unforosoon sfo chnngo In fho
rIco IovoI boforo fhoso nnfIcInfIons bocomo offocfIvo. OfhorwIso, ns soon ns If Is
known fhnf fho rnfo of monofnry oxnnsIon Is nbouf fo chnngo, ngonfs musf
13
rocognIzo, nof onIy fhnf fho Iong-run oquIIIbrIum rnfo of InfInfIon hns Incronsod, buf
nIso fhnf, In fho nbsonco of n sfo fnII In fho monoy suIy, fho oconomy musf movo
fo fho hIghor rIco IovoI nssocInfod wIfh nn Incronsod voIocIfy of cIrcuInfIon. Tho
Inffor chnngo, If If Is forosoon, InvoIvos n sfo jum In fho rIco IovoI nnd honco nn
InfInIfo rnfo of InfInfIon for nn Insfnnf. !nfIonnI ngonfs wouId fIoo from monoy nnd
gonornfo nn oxIosIon In fho rIco IovoI. ThIs robIom furns u onIy In nn oxfromo
form of rnfIonnI oxocfnfIons.
!nIdIor (l982, l34-l35) roosod n Ioosor vorsIon of fho hyofhosIs fhnf
wouId rocognIzo ngonfs` knowIodgo of fho wny In whIch fho oconomy works Is
Imorfocf, fhnf dnfn on fho bohnvIor of nrfIcuInr vnrInbIos Is oxonsIvo fo gonornfo
nnd rocoss, nnd fhnf chnngod oxocfnfIons do nof Iond ImmodInfoIy fo chnngos In
ncfIvIfy. Tho Ioosor form wouId InsIsf on gonornfIng n moro nccurnfo forocnsf of fho
bohnvIor of InfInfIon fhnn couId bo hnd sImIy by oxfrnoInfIng from nsf dnfn on
fhnf vnrInbIo, nnd fo do so nf n cosf whIch mnkos fho oxorcIso worfhwhIIo. Ior somo
ngonfs nf Ionsf, If Is ossIbIo fo uso oxfrnnoous InformnfIon on fho monoy suIy
nnd fo ncf uon fhnf forocnsf.
If fho rnfo of monofnry oxnnsIon Incronsod nnd fhIs Iod somo fIrms fo oxocf
nn Incronso In fho InfInfIon rnfo, fhoy wouId Incronso rIcos of fhoIr oufuf nf n
moro rnId nco, wIfhouf nny InforvonIng chnIn of nssof dIsoquIIIbrIum or oufuf
chnngo boIng nocossnry fo romf such bohnvIor. Tho frnnsmIssIon mochnnIsm
oornfIng fhrough orffoIIo dIsoquIIIbrIum nnd oufuf chnngos wouId novor bo
cnIIod Info Iny, nnd monofnry oIIcy wouId hnvo no shorf-run ronI offocfs. Thoso
roosIfIons foIIow from fho oxfromo form of rnfIonnI oxocfnfIons. Ivon If onIy
14
somo ngonfs ncf uon rnfIonnI oxocfnfIons, fhoIr ncfIvIfIos ImIy fho oxIsfonco of
yof nnofhor chnnnoI whoroby monofnry chnngos nffocf nomInnI Incomo nnd
oxondIfuro, ono whIch oornfos dIrocfIy fhrough oxocfnfIons nnd fhoIr InfIuonco
on rIco bohnvIor.
Tho rnfIonnI oxocfnfIons hyofhosIs Is dosfrucfIvo for fho nnnIysIs of fho
frnnsmIssIon mochnnIsm ns oornfIng fhrough fho chnIn of nssof dIsoquIIIbrIum nnd
oufuf chnngos. ThIs Is nn Imorfnnf ImIIcnfIon of fho work of Snrgonf nnd
WnIInco nnd !ucns.
!nfIonnI oxocfnfIons mnkos If ossIbIo for vnrInfIons In fho qunnfIfy of
monoy fo dIrocfIy nffocf nomInnI Incomo, socIfIcnIIy rIcos, wIfhouf gonornfIng
ovIdonco fhnf oxondIfuro docIsIons nro sonsIfIvo fo vnrInfIons In Inforosf rnfos or
nny ofhor roInfIvo rIcos. Such IInkngos como Info Iny nnd nro obsorvnbIo whon
fho consoquoncos of monofnry chnngo nro nof fuIIy nnfIcInfod by ngonfs.

4. TLe IvIsIon oI NomInu! Income Between tLe PvIce Ieve! und Reu!
Income In Tevms oI tLe xpectutIons Augmented PLI!!Ips Cuvve

MonofnrIsfs nffrIbufo mosf of fho vnrInfIons In nomInnI Incomo duo fo
vnrInfIons In fho qunnfIfy of monoy fo fnII rImnrIIy on rIcos rnfhor fhnn ronI
Incomo. Tho IhIIIIs Curvo In Ifs nugmonfod form, IrIodmnn (l9?0, 22l) sfnfod,
rovIdod fho mIssIng oqunfIon In fho monofnrIsf modoI of InfInfIon. Tho IrIfIsh
vIow In l9?0 of fho doformInnfIon of fho rIco IovoI wns fhnf oxogonous fncfors
nccounfod for If, nnd monofnry oIIcIos, If fhoy nffocfod nomInnI Incomo, wouId
chnngo ronI Incomo (!nIdIor l982, l2?-29). MonofnrIsfs nrguod fhnf InfInfIon,
roInfIvo fo oxocfnfIons, wouId bo Iow In rocossIons nnd hIgh In good fImos. Tho
15
cooffIcIonf on oxocfod InfInfIon wouId bo oqunI fo unIfy nnd nn orror IonrnIng
rocoss wouId Iond fo fho formnfIon of oxocfnfIons. Any consfnnf ncfunI InfInfIon
wouId como fo bo fuIIy nnfIcInfod.
!nIdIor (l9?5n) concIudod fhnf If Is gonornIIy nccofod fhnf InfInfIon vnrIos
wIfh fho IovoI of nggrognfo domnnd, nnd fhnf fhoro hns boon n swIng fo fho
monofnrIsf vIow fhnf In fho Iong run fhoro Is no sIgnIfIcnnf InfInfIon-oufuf frndo-
off. Ho found subsfnnfInI dIsngroomonf on fho quosfIon of how Iong If fnkos for fho
oconomy fo convorgo fo fho Iong-run soIufIon. Ho boIIovos monofnrIsfs nro now
wIIIIng fo ngroo fhnf oxogonous vnrInbIos nffocf fho bohnvIor of fho rIco IovoI
fomornrIIy, whIIo monofnry fncfors doformIno Iong-form fronds nnd KoynosInns
nro now wIIIIng fo ngroo fhnf monofnry fncfors doformIno Iong-run rIco fronds, buf
sfIII sfross fho shorf-run Imorfnnco of oxogonous vnrInbIos.
!nIdIor soos rnrochomonf bofwoon monofnrIsfs nnd KoynosInns on fho
omIrIcnI roorfIos of fho IhIIIIs curvo buf nof on Ifs fhoorofIcnI bnsIs. On fho ono
hnnd, n vIow on InfInfIon unomIoymonf InforncfIon oxrossod by IhoIs nnd
IrIodmnn sfrossod fhnf dIsoquIIIbrIum In fho Inbor mnrkof mIghf nffocf ronI wngos
Insfond of nomInnI wngos, nnd whnf mIghf bo crIfIcnI fo nomInnI wngos wouId bo
whnf wns hnonIng fo fho gonornI rIco IovoI. On fho ofhor hnnd, fhoro Is n vIow of
fho nugmonfod IhIIIIs curvo ns nn nggrognfo suIy curvo, nn InforrofnfIon whIch
IrvIng IIshor hnd onrIIor ndofod.
!nIdIor (l982, 6) nofod fhnf fho nggrognfo suIy vIow of fho IhIIIIs curvo
rnIsos Issuos fhnf nro nof consIdorod In fho frndIfIonnI monofnrIsf subjocf mnffor. If
fho IhIIIIs curvo Is nn nggrognfo suIy curvo, fhnf nmounfs fo snyIng fIucfunfIons
16
In oufuf nnd unomIoymonf nro voIunfnry choIcos of IndIvIdunIs who mnko
oxocfnfIonnI orrors nbouf rIcos In mnrkofs whIch nro confInunIIy cIonrIng.
ovInfIons of oufuf nnd omIoymonf from fho IovoIs fhoy wouId nffnIn woro
oxocfnfIons corrocf, !nIdIor ngroos Is n sorIous robIom buf ho rojocfs WIIIom
IuIfor`s (l980) rorosonfnfIon of fhIs fhoory of unomIoymonf ns Tho
MncrooconomIcs of r. InngIoss (!nIdIor l982, l?). In fho nggrognfo suIy curvo
nronch, unomIoymonf occurs nof bocnuso mnrkofs fnII fo brIng fogofhor nII
wIIIIng buyors nnd soIIors In mufunIIy snfIsfncfory frndos, buf bocnuso mnrkofs nnd
ofhor InsfIfufIons fnII fo rovIdo onough InformnfIon fo gonornfo nccurnfo
oxocfnfIons on whIch frndos nro bnsod. ThIs mnkos fho !nfIonnI IxocfnfIons
HyofhosIs nn obvIous comIomonf fo fho nggrognfo suIy curvo InforrofnfIon of
fho IhIIIIs curvo. Agonfs hnvo nn InconfIvo fo uso nII nvnIInbIo InformnfIon In
formIng oxocfnfIons fo nvoId mnkIng sysfomnfIc orrors.
!nIdIor snys If IndIvIdunIs fhon mnko onIy rnndom orrors, nnd yof mnrkofs
cIonr, fwo quosfIons nrIso. Ono Is why n rodomInnnf numbor of ngonfs In fho
oconomy Is In orror In ono dIrocfIon, so fhnf nggrognfo oufuf nnd omIoymonf
dovInfo from fhoIr nnfurnI rnfos. Anofhor Is why do fIucfunfIons In oufuf nnd
omIoymonf obsorvod In nn ncfunI oconomy dIsIny n nfforn of sorInI corroInfIon
chnrncforIzIng fho busInoss cycIo.
An nnswor fo fho quosfIons hns boon rovIdod by !oborf !ucns, Thomns
Snrgonf nnd nssocInfos. Tho nnswor Is n fhoory of fho busInoss cycIo fhnf dorIvos
from fho AusfrInn busInoss cycIo fhoory of fho Inforwnr orIod roosod by Hnyok
nnd von MIsos, bnsod on fho Idon fhnf nII mnrkof honomonn nro fho oufcomo of
17
voIunfnry choIcos of mnxImIzIng IndIvIdunIs. !ucns of nI hnvo gono furfhor fhnn
fhoIr AusfrInn rodocossors by osfuInfIng fhnf oufuf, omIoymonf nnd rIcos
fIucfunfo ns n rosuIf of voIunfnry choIco In mnrkofs fhnf nIwnys cIonr. !nIdIor
(l982, ?6) ndmIros fho fhoory buf donIos Ifs bnsIc nssumfIon fhnf nII mnrkofs
nIwnys cIonr, In nrfIcuInr mnrkofs for mnny comononfs of fInnI oufuf nnd nbovo
nII, fho Inbor mnrkof. Ior fho oo-AusfrInns, nII unomIoymonf Is voIunfnry. Ior
ofhor mncrooconomIsfs, somo unomIoymonf Is InvoIunfnry (!nIdIor l990).
!nIdIor nrguos fhnf fho non-cIonrIng mnrkof nronch fo fho nnnIysIs of
InfInfIon-unomIoymonf InforncfIon doos nof confIIcf wIfh fho nofIon of rnfIonnI
oxocfnfIons If fho concof Is Inforrofod ns InfIuoncos on oxocfnfIons ofhor fhnn
qunnfIfy sIgnnIs, such ns obsorvnfIons on fho nsf bohnvIor of fho monoy suIy ns
rovIdIng InformnfIon on fho wny fo sof rIcos, or In nn oon oconomy, rIcos ruIIng
oIsowhoro, or vnrInfIons In oxchnngo rnfos.
Whnf fho non-cIonrIng nronch noods fo oxInIn, howovor, Is why fhoro Is
nof ImmodInfo ndjusfmonf of rIcos fo n mnrkof-cIonrIng IovoI In rosonso fo oufuf
sIgnnIs In n convonfIonnI frnnsmIssIon mochnnIsm bofwoon monoy nnd nggrognfo
domnnd. Tho ronson for fho fondoncy fo undor-roncf fo qunnfIfy sIgnnIs, !nIdIor
sfnfos, Is fho fImo If fnkos for ngonfs fo doformIno whofhor n shock fhnf gnvo rIso fo
fho sIgnnI Is frnnsIfory or orsIsfonf. In nddIfIon, fho oxIsfonco of confrncfs rovonfs
vnrInfIon of wngos nnd rIcos nnd Iongfhons fho rosonso fo qunnfIfy sIgnnIs.
Tho dobnfo on whofhor mnrkofs nIwnys cIonr or do nof, nccordIng fo !nIdIor,
Is nof nnofhor round In fho confrovorsy bofwoon monofnrIsfs nnd fhoIr oononfs.
Agroomonf wns much cIosor bofwoon fhom by l980, whon ho wns wrIfIng, fhnn
18
onrIIor on fho sfnbIIIfy of fho domnnd for monoy funcfIon nnd nbouf fho omIrIcs of
oufuf-InfInfIon InforncfIon. Whnf sfIII dIvIdos fho fwo cnms, ns If dId In fho l960s,
Is oInIon on fho roor conducf of mncrooconomIc oIIcy, nbouf whIch dIscussIon by
!nIdIor Is Infroducod nffor consIdornfIon of monofnrIsm nnd fho oon oconomy
(!nIdIor l982, 34-35).

5. TLe Monetuvy AppvoucL to tLe Bu!unce oI Puyments und xcLunge Rute
Anu!ysIs

MonofnrIsm bocnmo Imorfnnf oufsIdo fho !S, nof Ionsf In IrIfnIn, In
nIIInnco wIfh fho monofnry nronch fo fho bnInnco of nymonfs, whoso ndvocnfos
osfuInfod fho oxIsfonco of n sfnbIo domnnd for monoy funcfIon ns nn omIrIcnI
hyofhosIs, frnnsformIng fho nronch from nn nccounfIng frnmowork Info n body of
subsfnnfIvo fhoory. InIfInIIy, ndvocnfos nnchorod fho ronI Incomo nrgumonf of fho
funcfIon by nssumIng fuII omIoymonf, buf soon roIncod fhIs nssumfIon wIfh nn
oxocfnfIons nugmonfod IhIIIIs curvo nnnIysIs of rIco-oufuf InforncfIon. Tho
monofnry nronch rovIdod fho monns whoroby monofnrIsf hyofhosos woro mndo
roIovnnf fo oconomIos ofhor fhnn fho !S, whIch, undor fho Iroffon Woods sysfom
nroxImnfod n cIosod oconomy.
!nfII l9?l In nny counfry ofhor fhnn fho !S, fho nrgumonfs of n sfnbIo
domnnd for monoy funcfIon woro boyond fho dIrocf confroI of fho domosfIc
nufhorIfIos, so monoy suIy wns nn ondogonous vnrInbIo fhnf hnd fo ndjusf fo fho
domnnd for monoy. ThIs monns fhnf In fho !K In fho l950s nnd l960s, cnusnfIon
rnn from nomInnI Incomo fo monoy, rnfhor fhnn fho rovorso. ThIs dId nof ombnrrnss
monofnrIsfs, rovIdod fhoy nffrIbufod mosf of fho chnngos In nomInnI Incomo ovor
19
fhnf orIod fo cnusos orIgInnfIng nbrond. AIfhough fho nugmonfod IhIIIIs curvo
fonchos fhnf fhoro Is no sfnbIo Iong-run Invorso frndo-off bofwoon InfInfIon nnd
unomIoymonf, In osf-wnr !K fho dnfn dIsInyod such n roInfIonshI down fo
l96?.
Tho monofnry nronch rovIdod fwo ronsons for fho !K oxorIonco. Ono wns
fhnf In n fIxod oxchnngo rnfo sysfom, rIcos of frndnbIo goods soId domosfIcnIIy, In
fho Iong run woro doformInod on worId mnrkofs. Tho domosfIc rIco IovoI fhoroforo
In fho Iong run bohnvod In IIno wIfh rIcos In fho worId nf Inrgo. IxocfnfIons by
ngonfs wouId Incorornfo fhIs bohnvIor. WorId rIcos woro roInfIvoIy sfnbIo unfII fho
Info l960s, nnd so woro InfInfIon oxocfnfIons. Iocnuso fho oxocfnfIons form In fho
nugmonfod IhIIIIs curvo oqunfIon wIII bo nn oxogonous consfnnf or fImo frond, fho
dnfn wIII oxhIbIf n sfnbIo nnd orsIsfonf InfInfIon-unomIoymonf frndo-off.
!nIdIor roorfod fwo oosIng vIows on !K sfo-go In fho l950s nnd l960s
nnd subsoquonf doforIornfIon of fho oconomy`s orformnnco. KoynosInns nssumod
fhnf undor fho Iroffon Woods sysfom, fho !K`s hIgh mnrgInnI roonsIfy fo Imorf,
In condIfIons romofIng hIgh cnIfnI ufIIIznfIon, roducod n Iow nnd nccofnbIo
InfInfIon rnfo buf bnInnco of nymonfs rossuro forcod n oIIcy rovorsnI. Tho
monofnrIsf oosIng vIow on sfo-go wns fhnf hIgh rnfos of domosfIc crodIf
oxnnsIon fhnf nccomnnIod hIgh IovoIs of domnnd, undor fIxod oxchnngo rnfos,
rosuIfod In bnInnco of nymonfs robIoms ns nn nIfornnfIvo fo InfInfIonnry rossuro
(!nIdIor l98lb,l985).
Tho KoynosInn soIufIon wns fhnf, dorocInfIon of fho curroncy fhnf ndofIng
fIoxIbIo oxchnngo rnfos wouId ormIf, wouId offsof bnInnco of nymonfs offocfs of n
20
hIgh roonsIfy fo Imorf, so fhnf fho oconomy couId oornfo nf n hIghor IovoI of
cnncIfy fo nchIovo rnId growfh wIfhouf fho consfrnInf of fho bnInnco of nymonfs.
Whnf undormInod fhIs romIsIng sfrnfogy In fhoIr vIow wns oxogonous shocks nnd
frndo unIon ncfIvIsm In fho l9?0s.
MonofnrIsfs, on fho ofhor hnnd, rognrdod fho doforIornfIon of fho !K
oconomy In fho l9?0s ns fho rodIcfnbIo InfInfIonnry oufcomo of oxnnsIonnry
oIIcIos undor oxchnngo rnfo fIoxIbIIIfy fhnf rnIsod nggrognfo domnnd wIfh no
InfIuonco on fho growfh of ronI Incomo. A domosfIc InfInfIon robIom roIncod n
bnInnco of nymonfs robIom.
Tho monofnry nronch fo fho bnInnco of nymonfs wns roIovnnf nof onIy fo
IrIfnIn`s orformnnco buf nIso fo fho InfornnfIonnI srond of InfInfIon, ns fho
roorcussIons on fho worId of !S monofnry oxnnsIon In fho l960s cuImInnfod In
fho bronkdown of fho Iroffon Woods sysfom (Cross nnd !nIdIor l9?6). !nIdIor ndds
fhnf fho nnnIysIs of fho monofnry nronch orforms Ioss woII nIIod fo fho
InfornnfIonnI monofnry sysfom sInco oxchnngo rnfos fIonfod In fho onrIy l9?0s.
AIfhough fho dnfn suorf fho nnnIysIs of fho bohnvIor of oxchnngo rnfos ns
consIsfonf wIfh offIcIonf nssof mnrkofs, ovIdonco doos nof suorf fho osfuInfo of
fho monofnry nronch fhnf fho oquIIIbrIum vnIuo of fho oxchnngo rnfo bofwoon nny
fwo curroncIos mIrrors urchnsIng owor nrIfy. Tho dnfn undor fIoxIbIo oxchnngo
rnfos show sysfomnfIc nnd orsIsfonf dovInfIons from urchnsIng owor nrIfy. If
novorfhoIoss undorIIos fho bohnvIor of Iong orIod nvorngos of dnfn. A gonornIIy
nccofod oxInnnfIon of fhoso nfforns Is nof yof nf hnnd (!nIdIor l98lb).

6. Monetuvy Po!Icy
21

nvId !nIdIor wns n Iong fImo ndvocnfo for MIIfon IrIodmnn`s (l960)
consfnnf growfh of monoy suIy ruIo. Insod on fho ovIdonco of n sfnbIo monoy
domnnd funcfIon IrIodmnn nnd !nIdIor nrguod fhnf If fho monofnry nufhorIfIos
woro fo sof fho growfh rnfo of somo monofnry nggrognfo (rofornbIy M2) oqunI fo
fho Iong-run growfh rnfo of fho ronI oconomy ndjusfod for nny socuInr frond In
voIocIfy fhnf Iong-run rIco sfnbIIIfy couId bo mnInfnInod (!nIdIor l9?3). !Iko
IrIodmnn ho wns oosod fo fIno funIngusIng monofnry oIIcy fo sfnbIIIzo shorf-
run movomonfs In ronI oufuf. Ho nIso fnvorod usIng fho monofnry bnso rnfhor fhnn
shorf-form Inforosf rnfos ns fho monofnry oIIcy Insfrumonf. Tho rnId runu of
InfInfIon In fho !K In fho l9?0s from Iow sIngIo dIgIfs fo cIoso fo 30 !nIdIor
nffrIbufod fo oxcossIvo monoy growfh fo fInnnco fIscnI dofIcIfs (!nIdIor l9?6). HIs
soIufIon fo hIgh InfInfIon In fho !K nnd !S In fho l9?0s wns fo foIIow n oIIcy of
grndunIIsmgrndunIIy IoworIng (by l-2 or yonr) fho rnfo of monoy growfh
fownrds fho Iong-run growfh of fho oconomy. Ho nrguod fhnf sInco If fook ovor n
docndo fo buIId u InfInfIon If wouId fnko fho snmo nmounf of fImo fo rofurn fo rIco
sfnbIIIfy (!nIdIor l982).
Ovor fho noxf docndo Infor !nIdIor sIgnIfIcnnfIy chnngod hIs vIows. Insod on
fho ovIdonco of InsfnbIIIfy In monoy domnnd, osocInIIy of fho Iong-run monoy
domnnd funcfIon rofIocfIng InsfIfufIonnI chnngo, ho Iosf hIs fnIfh In monofnry ruIos
nnd bocnmo nn ndvocnfo of consfrnInod dIscrofIon( !nIdIor l98ln,l99?b).
If Is n dofonsIbIo osIfIon fhnf n oIIcy rogImo whIch ormIfs fho monofnry
nufhorIfy fo uso dIscrofIon In fho sonso of fhoIr bosf judgomonf, In InfIuoncIng
22
monoy growfh In ursuIf of n rocIsoIy dofInod InfInfIon fnrgof mIghf bo rofornbIo
fo hnvIng If fIod down by n ruIo for Ifs bohnvIor (!nIdIor l99?b, 80).
Ho nIso bocnmo nn ndvocnfo for fho curronf sof of oIIcy nrrnngomonfs
InfInfIon fnrgofIng nnd confrnI bnnk Indoondonco on fho grounds fhnf fhoy wouId
doIIvor bofh oIIcy frnnsnroncy nnd crodIbIIIfy (!nIdIor l99?n).
!nIdIor nffrIbufod fho fnIIuro of fho monofnrIsf oxorImonf In fho onrIy 80s fo
n numbor of fncfors. IIrsf, ho down Inyod fho Imorfnnco of shIffs In fho domnnd
for monoy funcfIon In fho l9?0s nnd 80s. Thoso, ho nrguod, rofIocfod bofh fInnncInI
InnovnfIon (whIch couId hnvo boon ndjusfod fo) nnd chnngos In roguInfIons whIch In
furn woro n consoquonco of fho buIIdu of InfInfIon boforo fho monofnrIsf
oxorImonf (!nIdIor l99?n).
A moro Imorfnnf robIom wns fho wny In whIch fho Innk of Cnnndn nnd
ofhor confrnI bnnks hIf fhoIr monofnry nggrognfo fnrgofs. !nfhor fhnn foIIow fho
monofnrIsf roscrIfIon of usIng fho monofnry bnso fo hIf fhoIr monoy growfh
fnrgofs, whIch !nIdIor cnIIs ncfIvo monoy, confrnI bnnks foIIowod nssIvo monoy
!nIdIor nnd InrkIn l9?5). Thoy usod fhoIr osfImnfos of fho shorf-run domnnd for
monoy funcfIon (bnsod on fho CoIdfoId socIfIcnfIon) fo soIvo for fho shorf-form
Inforosf rnfo noodod fo hIf fhoIr sfnfod monoy fnrgof. ThIs mndo monoy suIy
ondogonous nnd rosonsIvo fo whnfovor shocks wouId drIvo fho domnnd for bnnk
crodIf (!nIdIor l999)
5
. IInnIIy, ho crIfIcIzod fho orIgInnI monofnrIsf nronch fo

5
In ( Laidler 1990 , chapter 6), he argues that the lagged dependent variable in the short- run demand for money
function, which appears to support the passive view, can be in a model where money causes and leads all the
variables upon which money demand depends. In this interpretation, the short-run demand for money function is not
structural but a peculiar reduced form of the model, and the coefficient on the lagged dependent variable is an
amalgam of the key coefficient in the transmission mechanism and hence subject to the Lucas ( 1976) critique. [We
thank David Laidler for this insight.]
23
InfInfIon, whIch focusod on fho InfIuonco of oxocfod InfInfIon on monoy domnnd
(!nIdIor l9??, l99?b). AccordIng fo fhnf vIow fho cosfs of oxocfod InfInfIon woro
frIvInI, nnd honco couId bo onsIIy donIf wIfh by n grndunIIsf oIIcy. ThIs nronch
Ignoros monoy`s roIo ns unIf of nccounf nnd modIum of oxchnngo nnd fho dIsforfIons
InfInfIon Imosos on fho nymonfs nnd nccounfIng sysfoms (!nIdIor l99?b, 2003).
osIfo hIs Infor crIfIcIsm of fho onrIy monofnrIsf nronch fo oIIcy ruIos, ho
confInuod fhroughouf hIs cnroor fo omhnsIzo fho bnsIc monofnrIsf rIncIIo fhnf
InfInfIon Is n monofnry honomonon. Moroovor, now fhnf monofnry oIIcy Is boIng
conducfod In mosf ndvnncod counfrIos wIfhouf fho oxIIcIf uso of nny monofnry
nggrognfos, !nIdIor wnrns fhnf conducfIng monofnry oIIcy wIfhouf monoy Is IIko
hnvIng HnmIof wIfhouf fho Chosffhnf monofnry nggrognfos convoy InformnfIon
nbouf fho frnnsmIssIon mochnnIsm fhnf Is crucInI fo fho offocfIvo conducf of oIIcy
(!nIdIor 2003).

?. Conc!usIon

nvId !nIdIor hns boon n mnjor Inyor In fho dovoIomonf of fho monofnrIsf
frndIfIon. As fho monofnrIsf nronch Iosf InfIuonco on oIIcy mnkors ho kof
dofondIng fho Imorfnnco of mnny of Ifs rIncIIos. As monofnry fhoory ovoIvod
durIng fho nsf four docndos ho kof u wIfh fho chnngIng modoIs buf dId nof
chnngo hIs hIIosohy. Ho nIso hns mndo us nwnro fhnf mnny of fho orIgInnI
monofnrIsf Idons osocInIIy fho Iong-run noufrnIIfy of monoy, nnd fho Imorfnnco
of ruIos hnvo now boon nbsorbod Info fho mnInsfronm. HIs rosonrch on monoy
domnnd nnd hIs dovoIomonf Info fho rnorfour nr oxcoIIonco of fho rIso nnd fnII
24
of fho domnnd for monoy nnd of fho monofnrIsf nronch fo monofnry oIIcy
gunrnnfoos hIm n Inco In fho Innfhoon of fhnf fIoId.

25
B. ReIevences

Iordo, MIchnoI . nnd !nrs Jonung (l98l). Tho !ong-!un IohnvIor of fho Incomo
VoIocIfy of Monoy In IIvo Advnncod CounfrIos, l8?9-l9?5: An InsfIfufIonnI
Aronch. 1cononic 1nquir, l9 (Jnnunry), 96-ll6.
Iordo, MIchnoI . nnd !nrs Jonung (l98?). Tle Long-Iun Belotior of /le 1ncone
Veloci/, of Circulo/ion. Tle 1ne/i/u/ionol 1tiJence. ow York; CnmbrIdgo
!nIvorsIfy Iross.
Iordo, MIchnoI . nnd !nrs Jonung (l990). Tho !ong-!un IohnvIor of VoIocIfy:
Tho InsfIfufIonnI Aronch !ovIsIfod. Journol of Polic, MoJeling l2
(summor) . l65-l9?.
IuIfor, WIIIom H. (l980). Tho MncrooconomIcs of r. InngIoss A CrIfIcnI Survoy of
fho ow CInssIcnI MncrooconomIcs. 1cononic Journol 90 (Mnrch), . 34-
50.
Chow, Crogory ( l966). On fho !ong-!un nnd Shorf-!un omnnd for Monoy.
Journol of Poli/icol 1conon, ?4 (ArII), . lll-l3l.
Cross, !odnoy nnd nvId !nIdIor (l9?6). InfInfIon, Ixcoss omnnd nnd
IxocfnfIons In IIxod Ixchnngo !nfo Oon IconomIos: Somo IroIImInnry
ImIrIcnI !osuIfs. In M. InrkIn nnd C. ZIs (ods.) 1nflo/ion in /le WorlJ
1conon,. Mnnchosfor !nIvorsIfy Iross.
IrIodmnn, MIIfon (l956). Tho QunnfIfy Thoory of Monoy, A !osfnfomonf. In
MIIfon IrIodmnn (od), S/uJiee in /le Quon/i/, Tleor, of Mone,. ChIcngo:
!nIvorsIfy of ChIcngo Iross.
26
IrIodmnn, MIIfon (l959). Tho omnnd Ior Monoy Somo ThoorofIcnI nnd
ImIrIcnI !osuIfs. Journol of Poli/icol 1conon, 6? (Juno), . 32?-35l.
IrIodmnn, MIIfon (l960). A Progron for Mone/or, S/oIili/,. ow York: Iordhnm
!nIvorsIfy Iross.
IrIodmnn, MIIfon (l9?0). A ThoorofIcnI Irnmowork for Monofnry AnnIysIs.
Journol of Poli/icol 1conon, ?8(2), . l93-238.
CoIdfoId, Sfohon M. (l9?3). Tho omnnd for Monoy !ovIsIfod. Broo/inge Popere
on 1cononic Ac/iti/, 3, . 53?-633.
CoIdfoId, Sfohon M. (l9?6). Tho Cnso of fho MIssIng Monoy. Broo/inge Popere
on 1cononic Ac/iti/, 3, . 683-?30.
Hondry, nvId nnd oII IrIcsson (l99l). ModoIIng fho omnnd for nrrow Monoy
In fho !nIfod KIngdom nnd Tho !nIfod Sfnfos. 1uropeon 1cononic Ietieu
35 (Mny), . 833-883.
!nIdIor, nvId (l966n). Somo IvIdonco on fho omnnd for Monoy. Journol of
Poli/icol 1conon, ?4 (Iobrunry), . 55-68.
!nIdIor, nvId (l966b). Tho !nfo of Inforosf nnd fho omnnd for Monoy- Somo
ImIrIcnI IvIdonco. Journol of Poli/icol 1conon, ?4 (ocombor), . 545-
555.
!nIdIor, nvId (l969 nnd Infor odIfIons). Tle DenonJ for Mone,-Tleoriee onJ
1tiJence. Hnror nnd !ow.
27
!nIdIor, nvId (l9?l). Tho InfIuonco of Monoy on IconomIc AcfIvIfy: A Survoy of
Somo Curronf IrobIoms. In CInyfon, C., CIIborf, J.C., nnd SodgwIck, !.
(ods.) Mone/or, Tleor, onJ Proc/ice in /le 1970e. Oxford !nIvorsIfy Iross.
!nIdIor, nvId (l9?3). MonofnrIsf IoIIcy IroscrIfIons nnd ThoIr Inckground.
Monclee/er Sclool,VoI. X!I, o. l, Mnrch, . 59-?l.
!nIdIor, nvId (l9?5n). 1eeo,e on Mone, onJ 1nflo/ion. Mnnchosfor !nIvorsIfy
Iross.
!nIdIor, nvId (l9?5b). SImuIfnnoous IIucfunfIons In IrIcos nnd Oufuf: A
IusInoss CycIo Aronch. In 1eeo,e on Mone, onJ 1nflo/ion, . l20-l33.
!nIdIor, nvId (l9?6). InfInfIon In IrIfnIn: A MonofnrIsf IorsocfIvo. Anericon
1cononic Ietieu 66, o. 4 (Sofombor), . 485-500.
!nIdIor ,nvId ( l9??). Tho WoIfnro Cosfs of InfInfIon In ooCInssIcnI Thoory In
!undborg, I ( od. ) InfInfIon Thoory nnd AnfI-InfInfIon IoIIcy. MncMIIInn,
!ondon. .3l4-328.
!nIdIor, nvId (l9?8). Monoy nnd Monoy Incomo: An Issny on fho 'TrnnsmIssIon
MochnnIsm`. Journol of Mone/or, 1cononice 4(2), . l5l-l9l.
!nIdIor, nvId (l980). Tho omnnd for Monoy In fho !nIfod Sfnfos-Yof AgnIn. In
Irunnor, K. nnd MoIfzor, A. H. (ods.) Tle S/o/e of Mocro-1cononice.
CnrnogIo-!ochosfor Conforonco SorIos on IubIIc IoIIcy V. l2. orfh-HoIInnd,
. 2l9-2?l.
!nIdIor, nvId (l98ln). MonofnrIsm: An InforrofnfIon nnd An Assossmonf.
1cononic Journol 9l (Mnrch), . l-28.
28
!nIdIor, nvId (l98lb). Somo IoIIcy ImIIcnfIons of fho Monofnry Aronch fo fho
InInnco of Inymonfs nnd Ixchnngo !nfo AnnIysIs. OxforJ 1cononic Popere
33 SuIomonf (Ocfobor), . ?0-84.
!nIdIor, nvId (l982). Mone/orie/ Perepec/itee. CnmbrIdgo, MA: Hnrvnrd
!nIvorsIfy Iross, . 3-4.
!nIdIor, nvId (l984). Tho Iuffor Sfock ofIon In Monofnry IconomIcs.
Conforonco IrocoodIngs, SuIomonf fo fho 1cononic Journol 94 (Mnrch),
. l?-34.
!nIdIor, nvId (l985). Tho 'Monofnry Aronch` nnd fho InfornnfIonnI Monofnry
Sysfom. In Clonpione of IreeJon VoI. ll: l-l8. HIIIsdnIo, MIchIgnn:
HIIIsdnIo CoIIogo Iross.
!nIdIor, nvId (l988). Somo MncrooconomIc ImIIcnfIons of IrIco SfIckInoss. Tho
Monclee/er Sclool 56 (l) 3?-54.
!nIdIor, nvId (l990). Tho ow CInssIcnI ConfrIbufIon fo MncrooconomIcs. In
To/ing Mone, Seriouel,. MIT Iross.
!nIdIor, nvId (l990). To/ing Mone, Seriouel,. CnmbrIdgo, MA: MIT Iross.
!nIdIor, nvId (l99?n). IrIco SfnbIIIfy nnd fho Monofnry Ordor. In Mone, onJ
Mocroecononice. !ondon: Idwnrd IIgnr, . 32?-35l.
!nIdIor, nvId (l99?b). InfInfIon ConfroI nnd Monofnry IoIIcy !uIos. In Iwno
Kurodn TouorJe More 1ffec/ite Mone/or, Polic,. ow York: Sf. MnrfIn`s
Iross.
29
!nIdIor, nvId (l999). Tho QunnfIfy of Monoy nnd Monofnry IoIIcy. Bon/ of
ConoJo Ietieu, Summor.
!nIdIor, nvId (2003). Monofnry IoIIcy wIfhouf Monoy; HnmIof wIfhouf fho
Chosf. ChnrIos Iroodmnn`s IosfschrIff, Innk of Cnnndn, Juno.
!nIdIor, nvId nnd MIchnoI InrkIn ( l9?5). InfInfIon: A Survoy. IconomIc
JournnI, 85 ( ocombor), . ?40-809.
!nfnno, Honry A. (l954). Cnsh InInncos nnd fho Inforosf !nfo: A IrngmnfIc
Aronch. Ietieu of 1cononice onJ S/o/ie/ice 36 (ovombor), . 456-460.
!ucns,!oborf I. IconomofrIc IoIIcy IvnIunfIon: A CrIfIquo, CnrnogIo !ochosfor
Conforonco SorIos on IubIIc IoIIcy, l, . l9-46.
MoIfzor, AIInn (l963). Tho omnnd Ior Monoy: Tho IvIdonco from fho TImos
SorIos. Journol of Poli/icol 1conon, ?l (Juno), . 2l9-24l.
Mussn, MIchnoI (l9?6). Oufuf nnd ImIoymonf In n ynnmIc ModoI of Aggrognfo
SuIy. !ondon SchooI of IconomIcs MImoo.
IhoIs, Idwnrd S. (l968). Monoy Wngo ynnmIcs nnd !nbor Mnrkof
IquIIIbrIum, Journol of Poli/icol 1conon, ?6(4) If. II, . 6?8-?ll.
IhoIs, Idwnrd S. nnd John I. TnyIor (l9??). SfnbIIIzIng Iowors of Monofnry
IoIIcy !ndor !nfIonnI IxocfnfIons. Journol of Poli/icol 1conon, 85(l), .
6l3-690.