According to the equation of exchange, if the economy is at full employment and M is increased while V is held constant:
A) an increase in P will occur.
B) an increase in Q only will occur.
C) an increase in P and a decrease in Q will occur.
D) an increase in Q and a decrease in P will occur.

Question

Quizplus · Accepted Answer

The equation of exchange is MV = PQ, where M is the money supply, V is the velocity of money, P is the price level, and Q is the quantity of goods and services produced (real GDP). If the economy is at full employment, increasing M while holding V constant means Q cannot increase further due to the economy operating at its maximum capacity. Therefore, the increase in M leads to an increase in P, reflecting inflation.

According to the Equation of Exchange, If the Economy Is