Question

which of the following would cause a decrease in the velocity of money?

Answer 1

The reason to worry over a low money velocity is if it reflects a shrinking economy or continued slow growth. If, on the other hand, the declining velocity is due to the money supply growing faster than a growing economy, this should indicate a growth problem.Hence, a lower demand for money increases money velocity in 2 ways: an increase in spending and/or an increase in investments. Therefore, any factors that cause people to hold money will decrease the velocity of money, while factors that increase spending or investment will increase the velocity of money.The velocity of money is a measurement of the rate at which money is exchanged in an economy. The velocity of money is usually measured as a ratio of gross domestic product (GDP) to a country's M1 or M2 money supply.Over the long-term, the link between money growth and inflation is strong, but, in many cases, money velocity is not constant over the short term, so some short-term inflation may be caused by an increase in the velocity of money. Although the velocity of money cannot be measured directly nor is it predictable over the short term, it is determined by both the demand for money and the supply quantity of money. An increased money supply will lower money velocity, while a decreased money supply will increase money velocity, all else being equal. But, in the short term, the money supply is considered constant.Therefore, the demand for money is inversely related to the velocity of money. To understand how the velocity of money changes, one must understand what changes the demand for money.When there are more transactions being made throughout the economy, velocity increases, and the economy is likely to expand. The opposite is also true: Money velocity decreases when fewer transactions are being made; therefore the economy is likely to shrink.