Suppose the velocity of circulation (V) is constant. Annual growth rate of real GDP is 5%. The money supply grows by 14% per year. Use the quantity theory of money to calculate the inflation rate.

My solution: Given M: 14%, V: Constant, Y: 5%, P: ?
M * V = P * Y
14 * V = P * 5
P = 14/5, am I right?

If not, could you please lead me to the right answer..thanks

  • $\begingroup$ You are not correct. You seem to have confused levels and changes $\endgroup$ – Henry May 21 '19 at 22:39

M * V = P * Y is not in a form of growth rate, so it needs to be changed into

ΔM + ΔV = ΔP + ΔY Because V is constant, then

14 + 0 = ΔP + 5

ΔP = 9%

ΔP = Change in price = inflation


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