What variable affects money demand the most in the Monetarist Model? In the Keynesian Model?
- In the Monetarist Model income. In the Keynesian Model, interest rates.
What two variables determine aggregate demand in the quantity theory model?
- The money supply (MS) and velocity (V).
When we observe output growing faster, does it mean inflation will fall?
- Holding aggregate demand (i.e. MS and V) constant, more output means lower prices. But output may be growing because aggregate demand is increasing. In this case, prices will increase.
Why in the long run, does a change in the money supply not affect anything real, including real output and the real money supply?
- In the long run, prices adjust to assure full employment. The full-employment level of output (Q’) will be unchanged. The real money supply (MS/P) will also be unchanged if V is the same, since MS/P = Q’/V.
Why in the long run, does a change in the money supply change all prices and nominal incomes by the same percent?
- Since Q and V are constant in the long run, the real money supply will be the same. So when MS increases a certain percent, all prices will have to increase the same percent in order that people have the same real money supply.
How does the public, not the government, determine what real money supply it wants to hold?
- If the public wants a certain level of money holdings, it will change its spending and thus the price level until it gets the level of MS/P it wants.
What causes a difference between desired spending and income in the Monetarist Model? In the Keynesian Model?
- In the Monetarist Model, a difference between desired spending and income is caused by either an excess demand for money (MD>MS) or an excess supply of money (MS>MD). An excess demand reduces desired spending, and an excess supply increases it. In the Keynesian Model, the difference is caused by changes in desired spending (particularly investment spending).
If people have an excess supply of money, how do they try to reduce their money holdings?
- People will try to reduce their money holdings by increasing their spending. For one person, this will reduce the person’s money holdings. But for all persons, the sum of all money holdings is fixed and equal to the money supply. By everyone’s effort to reduce their money holdings, total spending and income will go up.
How does fiscal policy stimulate the economy in the quantity theory of money?
- By increasing the interest rate and increasing V.
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