Using the equation of exchange,if real output increases by 5 percent per year and velocity is stable,in order to keep the price level stable
A)The interest rate must increase by 5 percent per year.
B)Velocity must increase by 5 percent per year.
C)The money supply must increase by 5 percent per year.
D)The money supply must increase by more than 5 percent per year because nominal output is greater than 5 percent.

Question

Quizplus · Accepted Answer

According to the equation of exchange, MV = PY, where M is the money supply, V is velocity, P is the price level, and Y is real output. If real output increases by 5 percent per year and velocity is stable, then the right-hand side of the equation (PY) increases by 5 percent per year. In order to keep the price level stable, the left-hand side of the equation (MV) must also increase by 5 percent per year. Since velocity is stable, this means that the money supply (M) must increase by 5 percent per year as well. Therefore, the correct answer is C.

Using the Equation of Exchange,if Real Output Increases by 5