THE CONCEPTION OF ‘VELOCITY’ AS APPLIED TO BANK MONEY

The expression ‘velocity (or rapidity) of circulation’ first came into use before the development of the cheque system, when the currency was mainly composed of coins and bank notes. The ‘velocity’ measured the average frequency with which a coin (or a bank note) changed hands, and thus indicated the ‘efficiency’ of the currency for the transaction of business. This was a definite and unambiguous idea. But it was necessary for its clarity that it should be applied only to the coins and notes which were being actually used as money, and not to hoards. For, otherwise, an increase (or decrease) in the amount of the hoards would appear as causing a decrease (or increase) in the velocity of the money, whereas what they were really causing was a decrease (or increase) in the supply, or quantity, of effective money. Thus it has been usual to limit the ‘velocity of circulation’, so far as practicable, to the effective money or money in active circulation, and not to stultify the conception by watering down the velocity of the money in circulation by including money which was not in circulation at all, but was being used as a ‘store of value’ and therefore had no velocity; changes in the amount of hoards being allowed for by regarding these as involving changes in the supply or quantity of circulating money rather than as changes in its velocity.