Velocity (V) measures how much money "turns over" each period. It is generally calculated as V = P Y/M where P Y is nominal GDP and M is a monetary aggregate.

a - Using US data plot the velocity of money using M1 and M2 as monetary aggregate (use data until December 2020).

The quantity theory of money assumes that Real money demand is proportional to real income. If so, Md/P = k Y . It assumes constant velocity, where velocity isn't affected by income or interest rates.

b - Based on your calculations on point (a) do you think it is a reasonable assumption (at least for some periods)?

Using the idea that M2 velocity was stable for some periods, economists at the Federal Reserve Board developed an inflation model based on M2 growth. The model suggested that the price level would adjust to an equilibrium level, P , that was determined mainly by the level of M2. See Jeffrey J. Hallman, Richard D. Porter, and David H. Small, "Is the Price Level Tied to the M2 Monetary Aggregate in the Long Run?" American Economic Review, September 1991, pp. 841-858. c - Suppose you are reading this article in 1991, would you agree with the idea that the price level is tied to M2? (discuss, I do not have a perfect answer) Now suppose many years have passed and you are in the FED: do you think targeting a level of M2 is a good idea to keep prices stable? d - Which key variable we discuss in class affects money demand and can cause velocity to vary across time?