One significant theory that has shaped modern economic policy is Monetarism.
Monetarism is an economic theory that emphasises the role of governments in controlling the amount of money in circulation.
It’s rooted in the belief that changes in the money supply are the primary drivers of inflation — basically, how much prices rise over time.
Milton Friedman, a leading American economist, is often credited with popularising this theory.
He argued that if a country’s money supply grows too quickly, inflation will inevitably follow.
The classic example? Hyperinflation in places where governments printed money recklessly, leading to skyrocketing prices.
But how does this work in practice?
According to monetarists, when there’s more money floating around in the economy, people and businesses have more to spend.
This increase in demand can push prices up — leading to inflation.
On the flip side, if the money supply is too tight, it can choke off spending, potentially leading to a recession.
So, what’s the policy takeaway from monetarism?
It’s pretty straightforward: control the money supply to keep inflation in check.
During the late 1970s and early 1980s, several governments around the world, including the United States and the United Kingdom, adopted monetarist policies, trying to manage their economies by strictly regulating the growth of money supply.
However, it wasn’t all smooth sailing.
Governments quickly found that controlling the money supply was easier said than done.
For one, they struggled to determine which measure of money supply to target — should it be cash in circulation, bank deposits, or something else?
Moreover, the relationship between money supply and inflation didn’t always behave as expected.
As a result, many countries eventually shifted away from strict monetarist policies and moved towards inflation targeting.
This approach focuses directly on controlling inflation rates, often by adjusting interest rates, rather than trying to control the money supply itself.
Despite these challenges, monetarism has left a lasting mark on economic policy.
It reminded policymakers of the importance of the money supply in shaping economic outcomes, and it underscored the dangers of unchecked inflation.
In conclusion, monetarism is a powerful idea that changed the way economists and governments think about money and inflation.
While it may not be the dominant policy tool today, its influence is still felt in how we approach economic stability and growth.