Price and Money: Wag the Dog?
Milton Friedman famously claimed, “Inflation is always and everywhere a monetary phenomenon.” Does this relationship also hold in reverse?
Decades ago, when everything and everyone from unions to cartels were blamed for inflation, Friedman rejected the conventional wisdom and posited on the basis of empirical data that money supply drives price levels. He argued that prices increased not due to price and wage increases, but because the federal government made the supply of money grow faster than the real economy created value. This groundbreaking theory, while highly controversial and almost revolutionary at the time, appeared to be vindicated by the “Great Inflation” of the 1970’s, and has since become the core tenet of monetarism and modern policymaking. However, in a mark-to-market world, a price may act insidiously to drive money supply and amplify boom-bust cycles.
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