Suppose a country has a money demand function (M/P)d = kY, where k is a constant

parameter. The money supply grows by 12% per year, and real income grows by 4 percent per

year.

a. What is the average inflation rate?

b. How would inflation be different if real income growth were higher? Explain.

c. Suppose, instead of a constant money demand function, the velocity of money in this

economy was growing steadily because of financial innovation. How would that affect the

inflation rate? Explain