Wednesday, January 22, 2014

It really does seem to be about the size of your base

I commented on my own post about the fact that MB/NGDP ought to be the primary variable to describe an economy based just on dimensional analysis and quickly realized that the equation of exchange is just MB/NGDP = k P MB/NGDP = k, so, well, duh. [Thanks Mike for catching the typo in the equation.] But that sent me down the rabbit hole of trying to show a graph that captures the picture in my head. The best result was this graph of the price level versus the monetary base:


The graph has the (normalized) data for several countries (US, EU, Sweden, Australia, Japan, Canada as well as the US 1929-1944 as colored points) along with the fits (dashed lines) to the function:


We can see that as the monetary base grows, the price level flattens out. Note that the model fit lines actually happen on a 3D surface (you can see they sidle back and forth a bit in places), so here is the same data along with the 3D plot of the function above (σ = MB/MB0):


Since κ is in a very tight range (roughly  κ = 0.6 to 1.0) you end up with what looks like a line in the first graph at the top when you graph P versus MB. Interestingly, you can rotate the 3D image to make all the data points fall on a better line (I removed the surface for clarity):


Is this showing a universal behavior of economies?

2 comments:

  1. Isn't it MB/RGDP=kP or MB/NGDP=k?

    ReplyDelete
    Replies
    1. You are correct, Mike. Thanks for catching that -- I updated the post.

      Delete

Comments are welcome. Please see the Moderation and comment policy.

Also, try to avoid the use of dollar signs as they interfere with my setup of mathjax. I left it set up that way because I think this is funny for an economics blog. You can use € or £ instead.