Chapter 6 complete

6.3.4 Milton Friedman’s Quantity Theory of Money (QTM) or Chicago Version of QTM 
Modern quantity theory of money is associated with Milton Friedman. Modern quantity 
theory of money refers to the reformulation of the traditional quantity theory of money 
(Fisher’s quantity equation and Cambridge-Cash balance version of QTM). Milton 
Friedman’s modern quantity theory of money is a theory of the demand for money. It is not a 
theory of output, or of money, or of the price level, because “any statement about these 
variables requires combining the quantity theory with some specifications about the 
conditions of supply of money and perhaps about other variables as well.”
Milton Friedman’s theory of demand for money is partly Keynesian and partly non-
Keynesian. It s non-Keynesian in the sense that Friedman neglects Keynesians’ classification 
of the motives for holding money (according to Keynes people demand mosey for three 
motives: the transaction motives, the precautionary motives, and the speculative motives) and 
the corresponding components demand for money. It is Keynesian in the sense that the 
modern QTM is influenced by the Keynesian analysis of liquidity preference. So it 
emphasises the role of money as an asset and treats the demand for money as part of capital 
or wealth theory, concerned with the composition of balance sheet or portfolio of assets. This 
marked a significant departure of Friedman’s modern QTM from the earlier QTM, which has 
been based medium of exchange function of money. Milton Friedman classifies the holders 

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of money as: (i) ultimate wealth-holders; and (ii) business enterprises. Milton Friedman gives 
more importance to ultimate wealth-holders and discusses less about business enterprises. To 
the ultimate wealth-holders or wealth-owning units in the economy, money is one kind of 
asset, one way of holding wealth. To the business enterprises or productive enterprises, 
money is a capital good, a source of productive services that are combined with other 
productive services to yield the products that the enterprises sell. Thus, the theory of demand 
for money is a special theory of supply of capital and demand for capital. The analysis of the 
demand for money on the part of the ultimate wealth-holders in the society can be made 
formally identical with that of the demand for a consumption services. As in the usual theory 
of consumer choice, the demand for money (or any other particular asset) depends on three 
major sets of factors: (i) the total wealth to be held in various forms – the analogue of the 
budget constraint in the usual theory of consumer choice. To serve as a good proxy for 
wealth, a longer term concept of income, like Friedman concept of ‘permanent income’ 
should be used in lieu of current income. The emphasis on income as a surrogate for