Definition: Quantity theory of money states that money supply and price level in an economy are in direct proportion to one another. When there is a change in the supply of money, there is a proportional change in the price level and vice-versa.
It is supported and
calculated by using the Fisher Equation on Quantity Theory of Money.
M*V= P*T
where,
M = Money supply
V = Velocity of money
P = Price level
T = volume of the
transactions
Description:
The theory is accepted by most economists per se. However, Keynesian economists
and economists from the Monetarist School of Economics have criticized the
theory.
According to them, the
theory fails in the short run when the prices are sticky. Moreover, it has been
proved that velocity of money doesn't remain constant over time. Despite all
this, the theory is very well respected and is heavily used to control
inflation in the market.