Reply To: Inflation


The claim that “any amount of money is optimal” does not refer directly to the dynamic process of monetary inflation.

Suppose that people have a money stock of $6 trillion and that today they make 1 billion trades. Then, they could still make their 1 billion trades if they had, instead, $3 trillion of money stock. In this case, prices would be roughly half as high. So any amount of money is sufficient for people to make all the trades that they want to make.

An increase in the money stock, with the demand for money given, drives up prices (or what is the same thing, drives down the PPM) permanently. However, the structure of prices will first be distorted and then restored. For example, suppose the Fed prints paper money and the government spends it on corn. The price of corn will rise as will the profit of corn farmers. Eager to earn the additional profit farmers will increase their demand for inputs (workers, seed, etc.) and investors will increase their demand for assets (farm land, equipment, etc.). Producers of those inputs and assets will have greater profit and the same process will occur with their inputs and assets. Having been earned by the producers of these goods, the new money will be spent on a wider array of goods across wider number of industries. Eventually, the additional profit in the areas mentioned will disappear and the rate of return will normalize. This process does not, however, require that the PPM fall back down but only that prices adjust relative to each other.

The same is true in cases of the boom-bust cycle. During the bust, the PPM does not need to fall back down, but the structure of prices relative to each other must normalize.