Question

1) Principle of Monetary Neutrality – Peter Thiel Discuss the Principle of Monetary Neutrality and explain why it should work. Do you believe this principle always holds true?

2)Money Demand – Peter Thiel Explain the concept of money demand and discuss how money demand will be affected if prices rise in the economy.

Answer 1

1)

The principle of Monetary Neutrality states that an increase in the money supply will increase only the price level and not the Real GDP.

Why it should work: Injection of more money into the economy puts cash in the pockets of consumers. Seeing their income increases, consumers start spending money on goods and services. Therefore, the demand for goods and services rise. Higher demand will create upward pressure on the general price level and hence the price level will increase.

This principle does not always hold true. It operates only in the long run. In the short, the money supply can affect the real variables as well and the principle, therefore, will not hold.

2}

Money demand shows the demand for real money balances.

Money Demand = k*Y

where k = how much money people want to hold for every unit of income.

Money Demand is proportional to real income.

When the money demand increases, then the price of money also increases.

Price rise in the economy increases the money demand and shifts the money demand curve to the right

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