Concept explainers
Sub-part
A
the effect on the nominal GDP when the money supply increases by 5% and velocity remains unchanged.
Concept Introduction: As per the equation of exchange, M×V=P×Y, where M is the quantity of money, V is its velocity, Y is nominal GDP, and P is the
Sub-Part
B
the effect on the nominal GDP when the money supply decreases by 8% and velocity remains unchanged.
Concept Introduction: As per the equation of exchange, M×V=P×Y, where M is the quantity of money, V is its velocity, Y is nominal GDP, and P is the price level. This equation explains that total spending is equal to total receipts. Thus, an increase in the quantity of money in the economy will lead to an increase in the price level, assuming the velocity and output level remains constant. Also, if there is an increase in the output level, it can lead to increase in demand for M, however, if the M remains constant, it will affect the velocity of money. The equation also states that the quantity of money spent equals the quantity of money used. The quantity theory of money explains the link in the variables.
Sub-Part
C
the effect on the nominal GDP when the money supply increases by 5% and velocity decreases by 5%.
Concept Introduction: As per the equation of exchange, M×V=P×Y, where M is the quantity of money, V is its velocity, Y is nominal GDP, and P is the price level. This equation explains that total spending is equal to total receipts. Thus, an increase in the quantity of money in the economy will lead to an increase in the price level, assuming the velocity and output level remains constant. Also, if there is an increase in the output level, it can lead to increase in demand for M, however, if the M remains constant, it will affect the velocity of money. The equation also states that the quantity of money spent equals the quantity of money used. The quantity theory of money explains the link in the variables.
Sub-Part
D
the effect on the price level in the short run in each of the situations.
Concept Introduction: As per the equation of exchange, M×V=P×Y, where M is the quantity of money, V is its velocity, Y is nominal GDP, and P is the price level. This equation explains that total spending is equal to total receipts. Thus, an increase in the quantity of money in the economy will lead to an increase in the price level, assuming the velocity and output level remains constant. Also, if there is an increase in the output level, it can lead to increase in demand for M, however, if the M remains constant, it will affect the velocity of money. The equation also states that the quantity of money spent equals the quantity of money used. The quantity theory of money explains the link in the variables.
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Chapter 15 Solutions
MindTap Economics, 1 Term (6 Months) Printed Access Card for Mceachern's ECON MACRO, 6th
- Topic: Quantity theory of money. Answer 1, 2 and 3. What will happen to nominal GDP if, instead, the money supply decreases by 8 percent and velocity does not change? What will happen to nominal GDP if, instead, the money supply increases by 5 percent and velocity decreases by 5 percent? What happens to the price level in the short run in each of these three situations?arrow_forward6. Monetary policy in the long run Consider a hypothetical economy that produces at its long-run macroeconomic equilibrium at a price level of 100. Suppose that the central bank in this economy is expanding the money supply by 4% each year. In order for the price level to be maintained at 100, real GDP must grow at an annual rate of (percentage?) if the velocity of money remains constant. Suppose the central bank enacts an unanticipated restrictive monetary policy. As a result, the supply of loanable funds (decreases/ Increase) , leading to a (rise/fall) in short-term interest rates. This in turn (reduces/raises) the opportunity cost of holding money. As people hold (Lower/ higher) money balances, the (velocity of money/ Price level/ aggregate output) will (rise/fall). True or false?: The shift in monetary policy exerts an impact on output and the general level of prices with a time lag. 6. Monetary policy in the long run Consider a hypothetical economy that produces at its…arrow_forwardeconomy Only 4th question(last one)arrow_forward
- 11. Inflation and unemployment Suppose that the government believes the economy is producing goods and services beyond its optimal level. The government therefore decides to decrease the quantity of money in the economy. This monetary policy_______ the economy's demand for goods and services, leading to________ product prices. In the short run, the change in prices induces firms to produce______ goods and services. This, in turn, leads to a_______ level of unemployment. In other words, the economy faces a trade-off between inflation and unemployment: Lower inflation leads to________ unemployment.arrow_forward6. Monetary policy in the long run Consider a hypothetical economy that produces at its long-run macroeconomic equilibrium at a price level of 100. Suppose the real GDP of this economy grows at an annual rate of 2%. If the velocity of money is constant, the central bank can maintain the price level at 100 by means of which of the following? Expanding the money supply by 2% per year O Reducing the money supply by 2% per year les of O Keeping the money supply constant Suppose the central bank enacts an unanticipated restrictive monetary policy. As a result, the supply of loanable funds leading to a in short-term interest rates. The following graph shows the goods and services market of this economy at full employment. Assume that potential output remains constant. Adjust the graph to show the long-run effect of an unanticipated restrictive monetary policy on the goods and services market by dragging the 511 8/2/ aggregate demand (AD) curve, the short-run aggregate supply (AS) curve, or…arrow_forward5. Inflation and the quantity theory: Suppose velocity is constant, the growth rate of real GDP is 3% per year, and the growth rate of money is 5% per year. Calculate the long-run rate of inflation according to the quantity theory in each of the following cases: 1. What is the rate of inflation in this baseline case? 2. Suppose the growth rate of money rises to 10% per year. 3. Suppose the growth rate of money rises to 100% per year. 4. Back to the baseline case, suppose real GDP growth rises to 5% per year. 5. What if real GDP growth falls to 2% per year? 6. Return to the baseline case and suppose the velocity of money rises at 1% per year. What happens to inflation in this case? Why might velocity change in this fashion?arrow_forward
- 3. (Note: You should wait to tackle this question until after lecture on Thursday, November 19.) Suppose that the economy is initiallyin long-run equilibrium: output is at potential and, as a result, inflation is steady. Now, suppose there is a permanent upward shift of the Federal Reserve's reaction function. a. What does this upward shift in the reaction function imply about the Fed's long-run target for the rate of inflation? b. What does the change in the reaction function imply that the Fed will do to the nominal interest rate and to the real interest rate in the short run? Describe two things the Fed could do to bring about this change in interest rates. c. What will be the short-run effect of the shift in the reaction function on GDP? d. Describe briefly how GDP returns to its potential level. (Hint: What will happen to inflation after a while? How will the Federal Reserve respond to that?)arrow_forwardquestion 3arrow_forward6. The Fisher effect and the cost of unexpected inflation Suppose the nominal interest rate on savings accounts is 11% per year, and both actual and expected inflation are equal to 5%. Complete the first row of the table by filling in the expected real interest rate and the actual real interest rate before any change in the money supply. Nominal Interest Expected Actual Expected Real Interest Actual Real Interest Rate Inflation Inflation Rate Rate Time Period (Percent) (Percent) (Percent) (Percent) (Percent) Before increase in MS 11 Immediately after increase 11 5 6 in MS Now suppose the Fed unexpectedly increases the growth rate of the money supply, causing the inflation rate to rise unexpectedly from 5% to 6% per year. Complete the second row of the table by filling in the expected and actual real interest rates on savings accounts immediately after the increase in the money supply (MS). The unanticipated change in inflation arbitrarily benefits Now consider the long-run impact of…arrow_forward
- (Please all answer)arrow_forward54 please quickly thanks !!! With a constant rate of inflation and an increasing money supply, interest rates can remain stable because... a.The rising price level is decreasing the demand for money which is pushing interest rates up. b.The rising price level is increasing the demand for money, offsetting the impact of the rising money supply. c.The declining interest rates cause the investment demand curve to shift to the right, which causes interest rates to rise. d.The money transmission mechanism does not apply in a situation of sustained inflation. e.The declining interest rates cause the investment demand curve to shift to the left, which causes interest rates to rise.arrow_forward6. The Fisher effect and the cost of unexpected inflation Suppose the nominal interest rate on savings accounts is 13% per year, and both actual and expected inflation are equal to 2%. Complete the first row of the table by filling in the expected real interest rate and the actual real interest rate before any change in the money supply. Time Period Before increase in MS Immediately after increase in MS Nominal Interest Rate (Percent) 13 13 Expected Inflation (Percent) 2 2 Actual Inflation (Percent) 2 10 The unanticipated change in inflation arbitrarily benefits Expected Real Interest Rate (Percent) Actual Real Interest Rate (Percent) Now suppose the Fed unexpectedly increases the growth rate of the money supply, causing the inflation rate to rise unexpectedly from 2% to 10% per year. Complete the second row of the table by filling in the expected and actual real interest rates on savings accounts immediately after the increase in the money supply (MS). Now consider the long-run impact…arrow_forward
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