Economics • Economic BasicsMedium
What does the 'Quantity Theory of Money' in its classical formulation state about the price level?
A. Prices are inversely proportional to the velocity of money.
B. Prices vary inversely with the money supply.
C. Prices vary proportionally with changes in the money supply, assuming velocity and output are constant.✓ Correct Answer
D. Prices are independent of monetary aggregates.
💡 Solution & Explanation
The classical Quantity Theory of Money expressed by the equation of exchange posits that price levels vary in direct proportion to changes in the money supply when velocity and real output are assumed to remain constant. An increase in money supply without a matching rise in output leads purely to inflation. Monetary economics principles are essential tools for economic analysis in competitive exams.
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