Assume that the Fed increases the money supply when there is substantial unemployment in the economy.According to the quantity theory of money, if velocity is constant, then:
A)the price level will decrease.
B)real GDP will decrease.
C)nominal GDP will increase.
D)nominal GDP will decrease.
E)real GDP will remain constant while price level will decrease.

Question

Quizplus · Accepted Answer

According to the quantity theory of money, an increase in the money supply leads to an increase in nominal GDP, assuming velocity remains constant. This is because there is more money available to buy goods and services, leading to an increase in overall spending and therefore an increase in nominal GDP. Real GDP may or may not increase depending on whether the increase in nominal GDP is due to an increase in production or simply due to inflation. The price level may increase or decrease depending on the relative strength of the increase in nominal GDP versus the increase in the money supply. However, the question assumes that the increase in the money supply occurs during a period of substantial unemployment, indicating that the economy is not producing at its full potential. In this case, the increase in the money supply may help to stimulate production and increase real GDP in addition to increasing nominal GDP.

Assume That the Fed Increases the Money Supply When There