Question

If the growth rate of the money supply is 8%, velocity is constant, and real GDP grows at 4% per year on average, then the inflation rate will be _____%.

If the growth rate of the money supply increases to 13%, velocity is constant, and real GDP grows at 2% per year on average, then the inflation rate will be _____%.

If the growth rate of the money supply increases to 13%, velocity grows at 11%, and real GDP grows at 2% per year on average, then the inflation rate will be ______%.

Answer 1

The relation among money growth (∆M), changes in the velocity of money (∆V), the change in prices (∆P), and the change in real GDP (∆Y) is given by the following equation:

∆M + ∆V = ∆P + ∆Y

1) ∆M = 8%, ∆V = 0, ∆Y = 4, ∆P needs to be determined.

Putting the values, in the formula, we get:

8 + 0 = ∆P + 4

∆P = 8 - 4 = 4%

Then the inflation rate will be 4%

2. ∆M = 13%, ∆V = 0 , ∆P = unknown, ∆Y = 2%

13 + 0 = ∆P + 2

∆P = 13 - 2 = 11%

Then the inflation rate will be 11%

3.

∆M = 13, ∆V = 11, ∆P = unknwon, ∆Y = 2

13 + 11 = ∆P + 2

∆P = 24 - 2 = 22%

Then the inflation rate will be 22%