Answer to Question #286442 in Microeconomics for Nipun Roy

Question

Discuss the quantity theory of money introduced by fisher

Answer 1

Solution:

In the money supply, the quantity theory of money is the theory where the variations in the price are related to the variations. ‘Neo-quantity theory’ or the ‘Fisherian theory’ is the most common version known to many. It suggests that between the changes in the money supply and the general price level there is a mechanical and a fixed proportional relationship. In general, the quantity theory of money is where the increase in the quantity of money tends to create inflation and vice-versa.

Fisher's Quantity Theory of Money

An American economist named Irving Fisher provided the version of the transaction of the quantity theory of money in his book ‘The Purchasing Power of Money’ in the year 1911. According to Fisher, as the quantity of money in circulation increases the other things remain unchanged. The price level also increases in direct proportion as well as the value of money decreases and vice-versa.

Fisher’s theory can be best explained with the help of a famous equation i.e.

$$MV=PT\\P=\frac{MV}{T}$$

Supply of money consists of a quantity of money in existence (M). It is multiplied by the number of times this money changes hands which is the velocity of money (V). V is the transaction velocity of the money in Fisher’s equation. That means that the average number of times a unit of money turns over or changes hands to effectuate transactions during a period of time.