From the quantity equation we find that the rate of inflation is equal by definition to the growth rate of the money supply ________ the growth rate of velocity ________ the growth rate of real GDP.

Question

Quizplus · Accepted Answer

The quantity equation is MV = PY, where M is money supply, V is velocity of money, P is price level, and Y is real GDP. Taking the percentage change of both sides, we get:

%Δ M + %Δ V = %Δ P + %Δ Y

Rearranging the equation, we get:

%Δ P = %Δ M - %Δ V - %Δ Y

This shows that the rate of inflation (%Δ P) is equal to the growth rate of money supply (%Δ M) minus the growth rate of velocity of money (%Δ V) minus the growth rate of real GDP (%Δ Y). As velocity of money may decrease in response to an increase in money supply or due to other factors, we can have a situation where %Δ M is greater than %Δ V + %Δ Y, leading to inflation. Therefore, the correct answer is B) plus, minus.

From the Quantity Equation We Find That the Rate of Inflation