Chapter 15, Problem 1TY

To determine

To Describe: The amount of money one has at a particular point of time, by the $M1$ definition.

Answer to Problem 1TY

The individual’s velocity of money for the particular year is $6.38$ and that for United States it is $9.8$ , showing that there is difference in velocity of money between the two.

Explanation of Solution

The relationship between the demand for money and supply of money, as per Fisher’s quantity theory of money is given below:

  $MV=PY$ …………. Eq (1)

Where

M is the money supply

V is the velocity of money

P is the general price level

Y is the total output.

The supply of money is represented by $MV$ and the demand for money is represented by $PY$

Hence in order to calculate the velocity of money, Eq (1) is rewritten as follows:

  $V=\frac{PY}{M}$ ………………….. Eq (2)

Here $PY$ represents GDP and $M$ represents monetary base. Therefore, rewriting Eq (2) as follows:

  $V=\frac{GDP}{M}$ ………………… Eq (3)

The individual’s velocity of money is calculated as follows:

The cash in hand the individual was having during the past 12 months is $\$1,350$

The savings in saving institutions and banks is $\$750$

Thus, the total money the individual is having is $\$2,100$

GDP of that particular year is $\$13,399$

The individual’s velocity is calculated by substituting these values in Eq (3) as follows:

  $\begin{array}{l}V=\frac{GDP}{M}\\ \text{ =}\frac{13,399}{2,100}\\ \text{ = 6}\text{.38}\end{array}$

Therefore, the individual’s velocity of money for the particular year is $6.38$

U.S.’s velocity of money for the particular year is calculated as follows:

  $\$1,367$ was the money supply for the particular year and $\$13,399$ was the GDP. Substituting these values in the Eq (3) the velocity is calculated.

  $\begin{array}{l}V=\frac{GDP}{M}\\ \text{ =}\frac{13,399}{1,367}\\ \text{ = 9}\text{.8}\end{array}$

Therefore, U.S.’s velocity of money for the particular year is $9.8$

Hence following are the conclusions:

• Individual’s velocity of money for the particular year is $6.38$
• U.S.’s velocity of money for the particular year is $9.8$

Therefore, the velocity of money of U.S. differs from that of the individual.

Economics Concept Introduction

Introduction: The total amount of money with banks and other saving institutions, that is in circulation as well as in savings, is referred as $M1$ money. The number of times the total money supply gets circulated in the economy during a particular period of time is referred as the velocity of money.