Monetary Policy and Inflation (6) - Controlling Cash

A major fallacy is that someone has to control the money supply.

Inflation became a problem when government started printing bank notes to pay for wars and politicians dreams. Therefore the solution to the problem seems be to limiting the printing of banknotes. Governments decided that they would prevent inflation by controlling the amount of cash in circulation. Then someone realized that money on call in a check account at the bank was as easy to spend as a wad of notes, so governments added cash in the bank to their target.

What the politicians did not seem to realise is that the amount of cash in circulation is only indirectly related to the level of economic activity. The amount of cash that I need varies across the month. After I have just been paid, I have a lot of cash on call in my account. Once I have visited the bank, I may have less money in my account, but a stash of notes in my pocket. If can get a better price for something with cash, I may want and even bigger wad of notes. On the day before payday, I may have no cash in my wallet, and all the surplus money in my account may have been put into an investment fund. My cash holdings would be zero.

The need for cash can vary considerably from day to day, but this not something the government should worry about. In theory, everyone could draw all their cash out of the bank on the same day and stock up with groceries. The demand for cash would go up enormously.

On the other hand, it is theoretically possible, though unlikely in practice, that on a particular day, everyone might have spent all their cash and put all their money at the bank onto fixed deposit. Every retail store might have invested their takings, including the cash float. At the end of that day, the level of cash holdings in the economy could be close to zero, but economy would not have ground to a halt. People would go to work the next day and life would carry on as usual.

The demand for notes and coins mostly depends on how quickly people spend their income after earning it. This is not something that governments should be controlling. The volume of cash and notes in circulation is decided by the behaviour of people in the economy and not the government.

The real problem is politicians printing money to pay for their grandiose schemes without increasing taxation. This is what needs to be prevented.

Monetary policy is a fraud. If the government is behaving, controlling the volume of money is not a problem, People can decide how much they want, so monetary policy is not needed. If politicians are misbehaving, then monetary policy will facilitate their misbehaviour. Therefore monetary policy is either not needed or doing harm. We would all be better off without it.