Question

C. Why do Keynesian economists believe increasing the money supply is a good idea? Use the equation in your answer.(equation of exchange)

Answer 1

Keynesians believe that the economy will move towards higher level of growth through increasing the money supply. The effective monetary policy will influence the interest rate and increase the level of production in current period and future period also. The lowering interest rate will stimulate the investment level in the economy and this will expand the economy and GDP. The expansionary monetary policy will increase both aggregate demand and aggregate supply. At the same time, the monetary policy will also try to maintain the inflation rate in the economy.
The equation of exchange shows the relation between the money supply, velocity of money and the price level. The velocity of money will measure the average number of transaction which the money circulated in the economy. In simple terms, the equation of exchange is MV=PQ. This equation is also known as the mathematical form of quantity theory of money. The total level of money that transacted in the economy will be equal to the total value of money of goods and services.
The increasing money supply will shift the money supply curve in money market to right. The money market will show the relation between interest rate and quantity of money in the economy. The rightward shift of the supply curve will reduce the interest rate in the economy. The lowering interest rate will raise the level of investment in the economy. The higher level of capital available in the economy will tried to raise the level of production. This increasing production will increase the exporting level and the overall GDP level. Thus the economy will move towards higher level of growth and development.