Money Market

Aggregate Demand and Supply¹

As per the Classical Model, increase in $M^S$ doesn’t affect the $\overline{Y}$ so, money supply is ineffective to increase $Y$.²

Exchange Equation (Fisher’s)

In the classical model the role of money is only as a medium of exchange. Assuming this we have the Fisher’s exchange equation.

$$MV=PT$$

where

• $M$ = Money stock
• $V$ = Velocity of money³
• $MV$ = Total money supply in the market
• $P$ = General Price Level⁴
• $T$ = Real volume of Transactions

The equation of exchange states that the total value of money given in exchange for goods ($MV$), must be equal to the total value of goods given in exchange for money $PT$. Thus, $\boxed{MV=PT}$.

Footnotes

1. see notes on Inflation ↩

2. Since $Y$ depends on $\overline{K}$ and $L$ Policy is said to be effective if the goal is achieved. It is said to be ineffective if the goal can’t be achieved. ↩

3. Number of hands it transfers ↩

4. Price level that determines inflation inflation ↩