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Unraveling Economic Equations: From Price Level to Velocity of Money
Chapter 30, Problem 1(choose chapter or problem)
Suppose that this year's money supply is $500 billion, nominal GDP is $10 trillion, and real GDP is $5 trillion.
a. What is the price level? What is the velocity of money?
b. Suppose that velocity is constant and the economy's output of goods and services rises by 5 percent each year. What will happen to nominal GDP and the price level next year if the Fed keeps the money supply constant?
c. What money supply should the Fed set next year if it wants to keep the price level stable?
d. What money supply should the Fed set next year if it wants inflation of 10 percent?
Questions & Answers
QUESTION:
Suppose that this year's money supply is $500 billion, nominal GDP is $10 trillion, and real GDP is $5 trillion.
a. What is the price level? What is the velocity of money?
b. Suppose that velocity is constant and the economy's output of goods and services rises by 5 percent each year. What will happen to nominal GDP and the price level next year if the Fed keeps the money supply constant?
c. What money supply should the Fed set next year if it wants to keep the price level stable?
d. What money supply should the Fed set next year if it wants inflation of 10 percent?
ANSWER:Step 1 of 5
Given data:
Money supply (M) = $ 500 billion.
Nominal GDP = $10 trillion.
Real GDP = $5 trillion.
The price level is kind of like the average price of a 'basket' of goods in our economy. It's calculated using the formula P = Nominal GDP / Real GDP. This gives us a picture of the general level of prices in the economy.
For the velocity of money, think of it as how fast a single dollar bill changes hands in the economy within a given time period. It's calculated using the formula V = (P x Y) / M. It's like the speedometer of the economy's money flow."
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Unraveling Economic Equations: From Price Level to Velocity of Money
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Discover how to calculate the price level and velocity of money using real-life data. Understand the relationship between money supply, GDP, and prices in the economy. Gain insights into the Federal Reserve's strategies for managing inflation and price stability.