Suppose the velocity of circulation increases by 2 percent and potential GDP grows by 4 percent. The trend inflation rate will equal zero if the quantity of money grows by
A) 0 percent.
B) 2 percent.
C) 4 percent.
D) -2 percent.

Question

Quizplus · Accepted Answer

The trend inflation rate equals zero when the growth rate of the money supply equals the sum of the growth rate of velocity and the growth rate of potential GDP. Here, 2% (velocity) + 4% (potential GDP) = 6%. Therefore, for inflation to be zero, the money supply must also grow by 6%, which is not an option provided. However, the correct interpretation of the question's intent, given the options, suggests a misunderstanding in the explanation process. The correct answer, based on the options provided and the typical interpretation of the Fisher equation (MV=PY), should reflect the balance between money supply, velocity, GDP, and inflation, but none of the options directly align with this explanation.

Suppose the Velocity of Circulation Increases by 2 Percent and Potential