1. Learning From Models Chapter 12

2. Irving Fisher The economic laws and government responsibilities which govern the value of money formed the most important economic question in America in the 1890s Elections of 1892 and 1896 Farmers crucified on a cross of gold PPM: the purchasing power of money

3. Prices The value of money is the reciprocal of the general level of prices Quantity theory of money –Double the money and you will double the prices Fisher did not see this as a policy rule PPM explored the process and show under what conditions QTM held

4. Irving Fisher: Model Builder Inventor –Visible card file index The Equation of Exchange –Three illustrations

5. The Arithmetic ‘Illustration’ The amount of money in the economy is much less than the total value of goods exchanged, each bit of money exchanges many times in the year. The ‘velocity’ of money’s circulation Each person has their own transactions velocity. The communal velocity is an average

6. One Simplifying Assumption Exclude non cash transactions and foreign trade Shows that if the amount of money changes, but velocity and quantities do not change, then prices must change Change in velocity and quantities also affect prices Three factors determine price levels

7. The Mechanical-balance ‘illustration’

8. The Algebraic ‘illustration’ Formulas on page 361 An algebraic statement is usually a good safeguard against loose reasoning Self-evident

9. The World in the Model Fisher has led the reader from the world of his/her individual money-good exchange into an aggregate, hence to a general world We are led into believing in the world in the model because of familiar features –Trading Places Mechanical balance –Exchange is a physical oscillation? p364

10. There is no constraint that says the balance must rest at equity What makes the money-exchange balance even out? –Monetary induced cycles and disturbance are included in the model

11. The Connecting Reservoirs Model Oft-used metaphor in economics Sees money or goods as flows of water such that their prices are automatically equalized between two places The effects of different arrangements of the parts

12. Model Design (First) General design features –Designed system set up as a laboratory experiment –Some features allow intervention and control –Others do not

13. Model Design (Second) Hybrid model –Part hydraulics –Part economics

14. The Model at Work Three-fold variations –An increase in production corresponds to an increase in the number of pipes –An increase in consumption corresponds to a decrease in the number of pipes –Closure of an interconnecting pipe by a valve Goal: to understand what determines the purchasing power of money

15. Rearranging the Model Fisher extended the model to explore how different institutional arrangements would affect the purchasing power of money Added an extra element to the model –An additional separate reservoir of is added which is then connected to the currency reservoir –Page 378

16. Bimetallism Two metals circulate as legal tender together –One cheap, the other dear –Cheap money will drive out dear money It all depends on the ratio We may believe that the model is a ‘good representation’ or not

17. What Does the Model Represent? The bullion flasks represent containers in which the stocks of gold and silver available in the world are stored for usage There is nothing like this in the real world –Fort Knox is the closest thing I can think of There is no way to measure such stocks

18. Conclusions We learn from models in two ways –In building them –In using them