Velocity in the country of Aquilonia is always stable. In 2018, the money supply was $100 billion, nominal GDP was $500 billion, and the real interest rate was 3 percent. In 2019, the money supply was $105 billion, and real GDP did not change from its level in 2018. What was the approximate nominal interest rate in 2019?
A) 3 percent
B) 5 percent
C) 8 percent
D) 11 percent

Question

Quizplus · Accepted Answer

The nominal interest rate can be approximated using the Fisher equation, which states that the nominal interest rate is approximately equal to the real interest rate plus the inflation rate. Given that the real interest rate is 3 percent and the money supply increased by 5 percent (from $100 billion to $105 billion) without a change in real GDP, we can infer that the inflation rate is approximately 5 percent. Therefore, the nominal interest rate is approximately 3 percent (real interest rate) + 5 percent (inflation rate) = 8 percent.

Velocity in the Country of Aquilonia Is Always Stable