Monetary Policy within the IS-LM Framework

Chapter 1

A Brief History of Monetary Theory

Monetary theory seems to have existed from the dawn of modern economics. Although Smith’s Wealth of Nations1 is considered the foundation of the methodological study of economics, monetary theory was already well established by then. Here, the term “monetary theory” ­narrowly refers to the relationship between the supply of money and the price level. As such, Mun2 states that exporting expensive, and importing cheap, would result in what is today called a positive balance of trade. He also points out that an inflow of bullion raises domestic prices; a funda­mental conclusion of monetary theory. The direct relationship between the quantity of money in circulation and the price level, which was demon­strated ...