Price Level (P) : 1.1

Velocity of Money (V) : 4.5

Real GDP (Y) : 90 mllion Quantity of Money (M) : 22 million

M x V = P x Y and %M + %V = %P + %Yv

1. Suppose that the velocity stays constant year to year. The output of goods and services rises by 3% each year. The central bank is increasing the money supply by 7% each year. How much will the nominal GDP and the price level increase annually as a result? (in percentage terms)
2. Calculate the new level of nominal GDP and the price level after one year.
3. Assume the same growth rate in output as above. Instead of simply growing the money supply by 7% annually, the central bank's objective is now to keep the price level constant from year to year. How much should they increase the money supply annually (in percentage terms) to maintain the price level constant?
4. What is the new level of the money supply after one year is the central bank follows the growth rate you found in part (d)?
5. Suppose again, like in part (b), that the output increases by 3% and the money supply increases by 7% for a number of years. Then one year, for some unknown reason, the growth rate of output drops to only 1% If the central bank keeps growing the money supply by 7%, what will be the new inflation rate in this economy?