Frances Coppola has written an entertaining critique of my Smaug post, which is kind of her. We’ve tweeted a bit. Go read her post.
As is often the case when reasonable people wildly disagree, we are almost certainly addressing different propositions. My basic point was that the MxV = PxY relation doesn’t much specify transmission mechanisms, and “reduced form” analysis suggests you can be confident the relation holds over a reasonable timescale without diving into all the mechanisms in detail. History, particularly under the gold standard, gives considerable backing to this.
It was not to say that transmission mechanisms never matter, which would be rude to people like Frances who specialise in that sort of thing. Nor was it to say – as her post sort of implies – that the wealth of the people of the local economy is assured no matter what happens. It is the dwarf gang who are made directly wealthier. The prosperity of “Laketown” relies on the assumption that the rising price level raises activity, and that there are sufficient nominal rigidities, debt overhang etc, to see much of that activity being real not just inflation. Previous posts by other people determined its state of depression.
Obviously the risk of writing fantasy stories is that all sorts of fantasy assumptions can be thrown back. If the gold is simply re-hoarded to the same convincing degree at having a fire breathing lizard sit on it, then the effect may be less. But if I had clarified that in this fable gold only has function as currency (except if you are a dragon), and you throw some reasonable assumptions about expectations in there (eventually the gold gets out, and people anticipate this), the conclusion that the price level would respond pretty strongly to the release of so much hard currency is pretty well founded.
Massive discoveries of X make the price of X fall. If X is the medium of account, this by definition means the price everything denominated in X rising.
The final point, as an impressed observer of market monetarists, is that this sort of story demonstrates the point I see Sumner making about monetary policy having long and variable leads. For the best recent example, the pre-election response of markets to Abe. My dumb and clearly confusing story was to make this point. A totally credible promise to inflate the currency massively ought to have a real reaction now, if believed. Money demand weakens when you know its quantity will soon explode/price fall./NGDP will rise. So merchants buy assets and goods and so on.
I think MM’s need this sort of story to explain things. I think it works quite well at times. I believe that happened under FDR in 1933. I sort of believed “Dragon slain/huge mountain of gold descends on village” was a similarly credible story. Maybe I was wrong.
This was meant to be playful and entertaining, and may now be tedious; I promise to try not to blog on it for a while!