Quantity Theory of Money

The quantity theory of money is one of the oldest theories in economics. It says: if you double the amount of money circulating in an economy (while output stays the same), prices will roughly double. More money chasing the same goods = higher prices = inflation.

The formula is MV = PQ — Money supply (M) times Velocity (V, how fast money changes hands) equals Price level (P) times Quantity of output (Q). If M goes up and V and Q stay constant, P must rise. It is elegant in its simplicity.

Milton Friedman championed this theory, famously stating: "Inflation is always and everywhere a monetary phenomenon." This is why central banks closely monitor money supply. Critics argue the theory oversimplifies — velocity is not constant, and the relationship between money supply and prices has weakened in modern economies with complex financial systems.