According to the quantity theory of money, if the money supply is increased by 1.5 times while velocity remains constant, the new price level will:
A) fall to half its initial level.
B) fall, but it will not fall all the way to half its initial level.
C) increase, but it will not double.
D) increase by 1.5 times.

Question

Quizplus · Accepted Answer

According to the quantity theory of money, MV = PY, where M is the money supply, V is velocity, P is the price level, and Y is real GDP. If M is increased by 1.5 times while V remains constant, then MV increases by 1.5 times. This means that either P or Y (or both) must increase by 1.5 times to maintain the equation. Since Y (real GDP) may not increase in the short run, the increase in M will lead to an increase in P by 1.5 times, as indicated in answer choice D.

According to the Quantity Theory of Money, If the Money