Americanophile Venezuelan
11/03/19 8:00 pm
MV= PQ
Where M is the money supply, V is the velocity of money, P is the price level, and Q is the level of real output.
Assuming V and Q as constant, the price level (P) varies proportionately with the supply of money (M). Until prices had risen by this proportion, individuals and firms would have excess cash which they would spend, leading to rise in prices. So inflation proceeds at the same rate at which the money supply expands.
If V varies without necessarily increasing the money supply, which occurs when confidence in the currency is lost and people rotate it more quickly, usually to buy other more stable currencies, P also varies proportionately.
If Q fall, the economy loses intrinsic value and each existing currency unit moving will only represent an unsupported instrument that inflates the market value.
TK421
11/03/19 7:42 pm
The money supply, and in our system, fiat money, is demanded by businesses and households to make transactions. Money is also loaned by banks, at an interest rate. The Fed controls the money supply through open market operations such as buying or selling government securities, or changing the discount rate or reserve requirements to banks.
To track inflation you must track the price level. This can be done on the Aggregate demand vs Aggregate Supply curve. Very hard to describe what exactly happens without it, so I’ll make it short.
If we are in a recession, the fed can assist aggregate demand by increasing the money supply to drive down the interest rate. This makes it easier for firms to do business and increase real gdp.
There is no immediate inflation, because wages and contracts are “sticky” to the past. But once these are adjusted to the new price levels, the inflation effect is seen.
Healthy inflation is theorized to be about 2 percent.
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