Question

The following table shows a money demand schedule, which is the quantity of money demanded at various price levels (P).

Fill in the Value of Money column in the following table.

Price Level (P)	Value of Money (1/P)	Quantity of Money Demanded
		(Billions of dollars)
0.80		2.0
1.00		2.5
1.33		4.0
2.00		8.0

Now consider the relationship between the price level and the quantity of money that people demand. The higher the price level, the money the typical transaction requires, and the money people will wish to hold in the form of currency or demand deposits.

Assume that the Fed initially fixes the quantity of money supplied at $2.5 billion.

Use the orange line (square symbol) to plot the initial money supply (MS1MS1) set by the Fed. Then, referring to the previous table, use the blue connected points (circle symbol) to graph the money demand curve.

MS1Money DemandMS20123456782.001.751.501.251.000.750.500.250VALUE OF MONEYQUANTITY OF MONEY (Billions of dollars)

According to your graph, the equilibrium value of money is , therefore the equilibrium price level is .

Now, suppose that the Fed increases the money supply from the initial level of $2.5 billion to $4 billion.

In order to increase the money supply, the Fed can use open-market operations to the public.

Use the purple line (diamond symbol) to plot the new money supply (MS2MS2).

At the initial equilibrium value of money and price level, the quantity of money supplied is now than the quantity of money demanded. This expansion in the money supply will people's demand for goods and services. In the long run, since the economy's ability to produce goods and services has not changed, the prices of goods and services will and the value of money will .

Answer 1