- Money is exogenously determined.
- Value of circulation is determined by the changes in price levels rather than amount of money available or current price level.
- Changes in velocity of money occur due to the factors like changes in transportation, new financial institution and other exogenous factors.
- Velocity of money is assumed to remain more or less stable in the long run.
- Inflation is the long run phenomenon.
- Real GDP is determined by the availability of labor, capital, natural resources, knowledge, and entrepreneurship.
- Economy is assumed to operate with full employment in the long run.
Based on the above assumptions, current investigation of Quantity Theory of Money emphasizes that the Equation of Exchange is the basic theory of inflation which determines nominal GDP in the economy. The Equation of Exchange can be explained in the form of an identity that establishes the relationship among money supply, the income velocity of money, the GDP deflator and real GDP. The current investigation of QTM can be represented by equation (2.21).
Where, is the total amount of money in circulation in an economy during a year. It is here considered as currency (including coins), bank deposits, and traveler’s cheques. is the velocity of ...
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...en carried out by economists and researchers regarding the causal linkage between money supply and price level for different countries. These empirical studies have shown three types of causation between money supply and price level. Some of the very important findings and conclusions from empirical studies about money-price relationship have been mentioned below.
Brillembourg and Khan (1979) have examined the causal relationship between money supply and price level for USA by utilizing the Sims procedure by means of annual data from 1870 to 1975. This study found the unidirectional causality running from money supply to price level, which supported Monetarists’ view. In the same analogy, the study of Lee and Li (1983) for Singapore also supported the Monetarists’ view that money has caused the price level.
Darrat (1986) used the procedure recommended by Sargent
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