Money Growth & Inflation (Block 3)

Question 1

Quantity theory of money

Answer 1

The theory that the quantity of money in an economy determines the level of prices and the rate of inflation

Question 2

Money demand

Answer 2

The amount of money individuals and businesses wish to hold for transactions and precautionary purposes.

Question 3

Money supply

Answer 3

The amount of money available in an economy, determined by central bank policies.

Question 4

Quantity equation

Answer 4

MV = PQ, where M is the money supply, V is the velocity of money, P is the price level, and Q is the quantity of goods and services produced.

Question 5

Changes in variables

Answer 5

If one variable changes, others must adjust to maintain the equation’s balance.

Question 6

Costs of inflation

Answer 6

• Menu cost: The costs incurred by firms in changing prices due to inflation.
• Shoe leather cost: The costs associated with increased frequency of transactions and reduced real balances due to inflation.

Question 7

Money neutrality

Answer 7

The idea that changes in the money supply do not affect real variables, such as output and employment, in the long run.

Question 8

Fisher effect equation

Answer 8

Nominal interest rate = Real interest rate + Expected inflation rate.

Question 9

Fisher effect

Answer 9

The nominal interest rate adjusts in response to changes in the expected inflation rate to maintain the real interest rate.