The output level of a country rises 5% and the money supply increases 8%. According to the equation of exchange, what can be expected in the long run in this country?
A) Output will fall by 3%.
B) Prices will rise by 3%.
C) Output will rise by 3%.
D) Prices will fall by 5%.

Question

Quizplus · Accepted Answer

According to the equation of exchange, MV=PY, where M is the money supply, V is velocity (assumed to be constant in the long run), P is the price level, and Y is the output level. If M increases by 8% and Y increases by 5%, then, assuming V is constant, P must increase by (8%-5%) = 3%. Therefore, prices in the country will rise by 3% in the long run.

The Output Level of a Country Rises 5% and the Money