Just covered MV = PT with my A2 class and produced some notes followed by a video from Marginal Revolution which I got from the Economics Teacher group.

**Quantity Theory of Money**

The Monetarist explanation of inflation operates through the Fisher equation.

**M **x** V **=** P **x** T **

M = Stock of money

V = Income Velocity of Circulation

P = Average Price level

T = Volume of Transactions or Output

For example if M=100 V=5 P=2 T=250. Therefore **MV=PT** – 100×5 = 2×250

Both M x V and P x T are equivalent to **TOTAL EXPENDITURE **or **NOMINAL INCOME **in a given time period. The Quantity Theory is the familiar monetarist interpretation of the Equation and is based on the following assumptions:

- T is broadly equivalent to total output and is fixed in the short run
- V is broadly stable (i.e. the demand to hold money is relatively uninfluenced by the change in interest rates that arises from changes in the money stock).
- Causality runs from the left hand side to the right hand side of the equation

On these assumptions, **increases in the money supply (after a suitable time lag) cause equivalent increases in the price level.**

**Critics argue that:**

- V is not stable and responsive to interest rate changes.
- T is not fixed and is responsive to increases in the money supply below full employment.
- Change is P tend to cause changes in M (and not v.v.). In other words, changes in the money supply
**accommodate**inflation and do not cause it.

Calculation using MV = PT

Since MV=PT (by definition), if M=$60, V=4 and T=12, then P can be found.

**P = MV /T = (60 x 4)/12 = $20**** **