Final answer:
The largest money growth rate the Fed could implement while achieving its inflation target of 2.70%, with a forecasted real GDP growth of 2.03% and stable velocity of money, would theoretically be the sum of the GDP growth rate and the inflation target, which is 4.73%.
Step-by-step explanation:
Given that real GDP is forecasted to grow by 2.03% and the velocity of money has remained stable, the question is concerned with finding the maximum money growth rate the Federal Reserve could implement to achieve its stated inflation target of 2.70%. According to the Quantity Theory of Money, the equation MV = PQ (where M is money supply, V is velocity, P is the price level, and Q is real GDP) can be rearranged to find the money growth rate. Considering that the velocity of money is stable (V is constant) and that the Fed targets 2.70% inflation rate (which relates to P), we can suppose that the money growth rate (M) must accommodate both the real GDP growth and the targeted inflation rate without exceeding them.
In this scenario, the money growth rate can be calculated by adding the forecasted real GDP growth rate to the targeted inflation rate, yielding a money growth rate that theoretically should not exceed 4.73% (2.03% GDP growth + 2.70% inflation target). However, this simplification assumes no changes in the velocity of money. Understanding the behavior of the Federal Reserve, Milton Friedman's theory, and historical monetary policies provides context to how the Fed might approach setting the money growth rate.