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The velocity of money provides another perspective on money demand.Given the nominal flow of transactions using money, if the interest rate on alternative financial assets is high, people will not want to hold much money relative to the quantity of their transactions—they try to exchange it fast for goods or other financial assets, and money is said to "burn a hole in their pocket" and ...
In monetary economics, the equation of exchange is the relation: = where, for a given period, is the total money supply in circulation on average in an economy. is the velocity of money, that is the average frequency with which a unit of money is spent.
If money demand is stable then velocity is constant and =. Additionally, in the long run real output grows at a constant rate equal to the sum of the rates of growth of population, technological know-how, and technology in place, and as such is exogenous. In this case the above equation can be solved for the inflation rate:
For example, the velocity of money is defined as nominal GDP / nominal money supply; it has units of (dollars / year) / dollars = 1/year. In discrete time , the change in a stock variable from one point in time to another point in time one time unit later (the first difference of the stock) is equal to the corresponding flow variable per unit ...
Money velocity had been stable and grew consistently until around 1980 (green). After 1980 (blue), money velocity became erratic and the monetarist assumption of stable money velocity was called into question. [94] Monetarism attracted the attention of policy makers in the late-1970s and 1980s.
The quantity theory of money consequently goes further, resting in its basic form on three additional assumptions: [36] The amount of real output is exogenous, being determined by other forces such as available production factors and production technology; Velocity is constant over time
Later research has shown that also growing output of Central European silver mines and an increase in the velocity of money because of innovations in the payment technology, in particular the increased use of bills of exchange, contributed to the price revolution.
It was Fisher who (following the pioneering work of Simon Newcomb) formulated the quantity theory of money in terms of the "equation of exchange:" Let M be the total stock of money, P the price level, T the number of transactions carried out using money, and V the velocity of circulation of money, so that: = [33]