MV = PY
I am trying to develop an intuitive understanding of it. M = Money Supply, V = Number of Transactions, P = Average Prices, Y = Output/Income.
The equation seems to suggest that if money supply and output are constant, then prices will keep rising with the number of transactions in an economy. Yet, this seems odd to me.
If a society has a fixed supply of money (e.g., £1m) and a fixed supply of goods (e.g., 1m cans of coke), then the average price of cans of coke can never rise above £1 each? You can get deflation if people stop buying cans of coke. You can also get inflation, if people go from not buying any coke to suddenly buying them all. Yet won’t the maximum average price always be £1 each? No matter how many times people buy and sell the cans of coke, and no matter how high the price of certain cans become, the average price will always reach the upper limit of £1 each.
Yet, the equation seems to suggest that velocity is an independent variable that can affect prices (assuming constant output and money supply) with no upper constraint.
Note: I appreciate that the real world is more complicated than the above, but I'm trying to develop an intuition. In my mind, velocity of circulation (or number of transactions) can only increase prices beyond an upper limit if money supply is increased e.g., banks start creating more credit to enable the increased transactions or output falls.
Please feel free to send me any articles/papers that you think will be helpful. Thank you!