Richard Duncan quotes

[Irving] Fisher reasoned that the velocity of money, its rate of turnover, depends on “individual habits” and “technical conditions” and has no discoverable relationship with the quantity of money. “It will depend on density of population, commercial customs, rapidity of transport, and other technical conditions, but not on the quantity of money,” he wrote.

He also explained that the impact of a change in the quantity of money on the volume of trade (T) only lasts during a transition period.

He described the dynamics of the transition period as follows. An initial increase in the quantity of money (M) causes the price of goods sold by the business community to increase more quickly than the rate of interest they are required to pay to finance the production of those goods. That results in higher profits for businessmen. The improvement in profits prompts businesses to borrow and invest more, thus producing a pickup in the volume of trade (T). Sooner or later, however, interest rates begin to increase due to rising inflation. Eventually, interest rates catch up with the increase in prices, thereby causing profit margins to contract again. At that point, the business community realizes it has been too optimistic about profits. Consequently, businesses stop borrowing and investing, so the volume of trade (T) contracts again. 

This is essentially a clear and simple explanation of the business cycle, or the credit cycle, as it is sometimes called. While the transition period lasts, the increase in the volume of trade (T) produces a temporary increase in PT (real GDP), followed by a bust in which both the volume of trade (T) and real GDP contract again. At the end of the process, GDP is only higher in nominal terms because of the increase in the price level (P ). 

Fisher was convinced that the duration of the transition period (or business cycle) would always be short-lived because there would always be a limit as to how much the quantity of money (M) could expand. 

In 1912, the legal requirement for banks to hold liquidity reserves against their deposits and the legal requirement for the Fed to hold gold to back the paper currency it printed both limited the “further expansion of deposit currency” (i.e., money). Both those constraints have long since been removed. 

As discussed in Chapter 1, the banks no longer are required to hold meaningful liquidity reserves and the Fed does not back its Federal Reserve notes with gold. That means the amount of credit that can now be created is practically infinite and that the transition period during which the volume of trade (T) (and GDP) can expand is much longer than when Fisher wrote The Purchasing Power of Money. The implications of this change are enormous.