Question

Suppose we define the state of the macroeconomy in period 0: M0 = $10000, V0 = 5, P0 = 100, and y0 = $500. (Do not use comma separators or dollar signs $)

What is the value of nominal income in period 0:

If the of the quantity of money falls to $5000 in period 1, what is the value of aggregate demand in period 1:

In the short-run, real incomes might fall as low as:

According to the quantity theory, what will be the long-run value of the price level, P1:

Answer 1

Nominal income in period 0 is $50000. The value of aggregate demand in period 1 is projected to be $25000, assuming constant velocity of money. The long-run value of the price level, P1, would adjust proportionally to the change in the money supply, potentially halving if other factors remain constant.

Step-by-step explanation:

When calculating the nominal income in period 0 using the quantity theory of money, we use the formula: Money Supply (M) x velocity (V) = Nominal GDP = Price Level (P) x Real GDP (Y). Plugging in the values for period 0: M0 ($10000) x V0 (5) = P0 (100) x y0 ($500), we find that the nominal income is 10000 x 5 = $50000.

For period 1, if the quantity of money falls to $5000, using the same formula, the value of aggregate demand would be: M1 ($5000) x V0 (5) = $25000, assuming that the velocity of money remains unchanged.

In the short-run, real incomes might fall as demand decreases, potentially down to the equilibrium point on the Keynesian cross diagram, which is given as $6000 in the provided example.

According to the quantity theory of money, the long-run value of the price level, P1, will adjust proportionally to changes in money supply if velocity and real GDP are constant. Therefore, in the long run, if the money supply is halved from $10000 to $5000 and V and Y remain constant, P would need to halve as well, moving the price level from P0 (100) to P1 (50).

Answer 2

Nominal income in period 0 is 50000. Aggregate demand in period 1 falls to 25000. Long-run price level, P1, would be 50, assuming velocity and real GDP remain constant.

Step-by-step explanation:

Using the quantity theory of money, we can determine the state of the macroeconomy for different periods. Initially, the formula Money Supply (M) x Velocity (V) = Nominal GDP (P x Y) is given as M0 = 10000, V0 = 5, P0 = 100, and y0 = 500. To calculate the nominal income in period 0, we multiply the values given for M0 and V0.

Nominal Income (NI0) = M0 x V0 = 10000 x 5 = 50000

In period 1, if the money supply falls to 5000, with the other variables remaining constant, the value of aggregate demand (AD) can be calculated as follows:

Aggregate Demand (AD1) = M1 x V0 = 5000 x 5 = 25000

In the short-run, real incomes might fall because with lower aggregate demand, businesses may sell fewer goods and services at existing prices, potentially leading to lower output and income.

According to the quantity theory, the long-run value of the price level, P1, considering velocity and real GDP remain constant, can be calculated by rearranging the equation as P1 = M1 x V0 / Y0. With real GDP (y0) from period 0 taken as a constant value of 500:

Price Level (P1) = M1 x V0 / y0 = 5000 x 5 / 500 = 50