Question

If the money supply is growing at a rate of 8 percent per​ year, real GDP​ (real output) is growing at a rate of 4 percent per​ year, and velocity is growing at 3 percent per year instead of remaining​ constant, what will the inflation rate​ be?

Answer 1

The inflation rate can be determined by combining the growth rates of money supply and velocity to find the nominal GDP growth rate and then subtracting the real GDP growth rate; in this case, the inflation rate would be 7 percent per year.

Step-by-step explanation:

To calculate the inflation rate given the growth rates of money supply, real GDP, and velocity, we can use the quantity theory of money represented by the equation MV = PQ, where M is the money supply, V is the velocity of money, P is the price level (which can reflect the inflation rate), and Q is the real output or real GDP.

Given that the money supply is growing at 8 percent per year, real GDP is growing at 4 percent per year, and velocity is growing at 3 percent per year, we can determine the inflation rate as follows:

1. Combine the growth rates of money supply and velocity to find the growth rate of nominal GDP (M x V), which is 8% + 3% = 11%.
2. Subtract the real GDP growth rate from the nominal GDP growth rate to find the inflation rate: 11% - 4% = 7%.

Therefore, the inflation rate would be 7 percent per year under these circumstances.