Quantecon is a country in which the quantity theory of money operates. The country has a constant population, capital stock, and technology. In year 1, real GDP was $400 million, the price level was 200, and the velocity of circulation was 20. In year 2 the quantity of money was 20 percent higher than in year 1.
The quantity of money in year 1 was ________.
The quantity of money in year 2 was ________.
The price level in year 2 is ________.
A)$20 million; 24 million; 240
B)$20 million; $24 million; 220
C)$40 million; $48 million; 240
D)$40 million; $48 million; 220
E)$80 million; $88 million; 200

Question

Quizplus · Accepted Answer

Using the quantity theory of money, we know that: 
MV = PY
where M is the quantity of money, V is the velocity of circulation, P is the price level, and Y is real GDP.
In year 1: 
M1V1 = P1Y1
Given that V1 = 20, P1 = 200, and Y1 = $400 million, then: 
M1 = P1Y1/V1 = 200 * $400 million/20 = $4 billion
In year 2: 
M2 = 1.20 M1 = 1.20 * $4 billion = $4.8 billion
Then, using the equation MV = PY: 
P2 = M2V1/Y1 = ($4.8 billion)/(20) = $240
Therefore, the correct answer is (C) $40 million; $48 million; 240.

Quantecon Is a Country in Which the Quantity Theory of Money