The currency standard in the United States is called “fiat” which basically mean

Question

The currency standard in the United States is called “fiat” which basically means that money has no security backing. In other words, our government has the ability to print as much money as they feel is necessary. What would happen to each of the following economic variables: M1, interest rates, inflation and wages, if the government increased the money supply by 20 percent per year? In general, what impact does increasing or decreasing the printing of money have on the economy (in your discussion, use the concepts of the demand and supply of money). Use the demand and supply graph to explain your answer.

Explanation / Answer

if govt./ central bank print more money this will increase the level of money(M1) in the economy.this implies that people have more money in hand (in nominal terms). thus they demand more. this will increase the aggregate dd in the economy. thus increasing the price level, in short run supply cannot increase and by the way increase in dd was due to increase in nominal money. nothing has chaged in real terms. so price level increases in the economy(inflation)

in medium run workers observes the rise in inflation thus dd more wages to compansate for inflation thus wages also rises but not in short run because of rigidities(contracts) thus rise in wages takes time

money ss > money dd in short run because of govt. actions thus interest rate falls(ss> dd, prce falls (first lesson of economics))interest rate is price of money.

graphs are easy aggregate dd is downward sloping, aggregate ss is upward sloping, money dd is downward sloping and money ss is vertical and increase in money ss leads to rightward shift of this vertical curve

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