Money crosses borders with ease. Theories about money have a harder time. US monetary economics focuses on the central bank balance sheet. Some theories link the balance sheet directly to nominal GDP and inflation. Others connect it to broad money via the money multiplier, the method favoured by undergraduate textbooks and Milton Friedman and Anna Schwarz in their Monetary History of the United States.

Stephen Cecchetti and Kermit Schoenholtz have made short work of both these proposed ties between the central bank balance sheet and other macroeconomic variables.

In Britain, monetary theories developed differently. The focus of British monetary economics is not the central bank balance sheet, but the balance sheet of the entire banking system. This approach starts with the observation that money is mostly bank deposits, a liability of the banking system.

As an item on the banking system’s balance sheet, it can be impacted by changes in any other element on the balance sheet, the so-called balance sheet counterparts. The main counterpart is lending to the private sector, but another important one is government bond holdings, which means money growth can be spurred by fiscal as well as monetary policy. This happened in the US toward the end of last year, when President Donald Trump’s budget deficits led to more bond purchases by banks, causing the money supply to accelerate.

During the heyday of monetarism in the 1970s and 80s, when money supply targeting was tried in various forms, the UK relied on the counterparts approach rather than Friedman’s multiplier. His main contribution to British economics was not monetary, it was the vertical Phillips curve; the idea that there was no long-run trade-off between unemployment and inflation.

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