Question

1. Recall the Quantity (Theory) of Money and its’ insights.

M *V P * Y

Converting to growth rates over time leads to approximation

M V P Y

M V P Y

g _M g_V g_Y

Another article in the Wall Street Hippo reports that, “The Hoya Republic’s real economy has decreased by 25% since 2015. This week at the Annual Meetings of the IMF-World Bank in Washington D.C., the IMF’s World Economic Outlook 2019 forecasts inflation will hit 900% and real GDP will decline a 10% in the Republic. (Hint: Apply one or more relation(s) above.)

1. Suppose that velocity growth for Bolivars is 250% in 2019. What is the growth rate of the Hoya currency (money supply)? What is occurring? (Use the Quantity Theory of Money tattoo) Why?

2. Suppose that the Central Bank of the Hoya Republic (CBHOY) continued following or even expanded its’ monetary policy in b. and the real economy grew by 3% in 2020. The long-run potential growth rate is 3%. How might this affect the use (and velocity) of Bolivars over time in the country? (Note: You can plug numerical values into the equation(s), but it is not necessary. Explain using your intuition.)

Answer 1

Quantity theory of money equation ;

MV = PY Here M-money stock

V-Velocity of money, P - price level, Y-real GDP.

Inflation =growth rate of money stock +change in velocity of money - real GDP

900=MS +250—(—10)

Growth rate of money stock =900—250—10 =640%

b. velocity of money =value of transactions / money supply

V= PT/M P - Price T=transactions

M=money supply

Or MV =PT

Thus if money supply is increased price level will increase other things remaining almost constant (real GDP increases by 3% only. Thus purchasing power (value) of currency goes down.