Quantity Theory Of Money Velocity Of Money & Equation Of Exchange Determinants of Velocity Demand For Money The Classical Dichotomy Quantity Theory & Price Level Quantity Theory & Inflation

1. QUANTITY THEORY OF MONEY
Presented By: Riya Aseef
Date:20/11/2018MACROECONOMICS

2. TOPICS COVERED
• Quantity Theory Of Money
• Velocity Of Money & Equation Of Exchange
• Determinants of Velocity
• Demand For Money
• The Classical Dichotomy
• Quantity Theory & Price Level
• Quantity Theory & Inflation
2

3. QUANTITY THEORY OF MONEY
• Product of Classical Economists/ Classicals
• Wages and Prices are flexible
• Irving Fisher in his book, The Purchasing Power of Money(1911)
examines the link between total quantity of money (M) and total
spending on final goods and services (P x Y).
3
M= Money Supply
P=Price Level
Y=Income/Aggregate Output

4. VELOCITY OF MONEY & EQUATION OF EXCHANGE
• Velocity of Money- The average of times per year that a dollar is spent
in buying goods and services produced in the economy.
• Equation of Exchange relates nominal income to quantity of money
and velocity.
• Quantity of money multiplied by the number of times the money is
spent in a given year must equal national income.
4

5. 5

6. 6

7. DETERMINANTS OF VELOCITY
7
•Money Supply: Money supply and velocity of money are inversely
proportional.
Regularity of Income – Regularity of income enables people to spend their
money more freely, leading to a rise in the velocity of circulation.
•Frequency of Transactions – As the number of transactions increases, so does
the velocity of circulation.
Payment System – It is also affected by the frequency with which labor is paid
and how fast the bills for various goods and services are settled.

8. DEMAND FOR MONEY
• Quantity of money that people want to hold.
• Divide both sides of the equation of exchange by V (Velocity)
• When Money market is in equilibrium, money supply equals money
demand, so we can replace M by M^d and dividing both sides by P:
8
M=(PY)/V
M^d/P=k*Y

9. FROM THE EQUATION OF EXCHANGE TO THE QUANTITY
THEORY MONEY
• Velocity is constant over long periods of time, so V = V’
• When M doubles, M*V’ doubles and so must P*Y, the value of
National Income.
9
P*Y=M*V’

10. THE CLASSICAL DICHOTOMY
• Classical dichotomy indicates that in the long run there is a complete
separation between the real side and the nominal side of the economy.
• Level of output produced in the economy would be determined by the
aggregate production function and the quantities of factors available.
• Consequently, the amount of goods and services produced in an
economy in the long run is not affected by price level.
10

11. QUANTITY THEORY AND PRICE LEVEL
• Substitute Y as Y’ in the quantity theory of money, we get:
• If M doubles, P must also double in the short run because V’ and Y’ are
constant.
• In the view of classical economists, changes in the quantity of money
lead to proportional change in the price level.
• Neutrality of Money is the idea that a change in the stock of money
affects only nominal variables in the economy.
11
P=(M*V’)/Y’

12. QUANTITY THEORY OF INFLATION
12

13. THANK YOU