Suppose velocity is constant at 4, real output is constant at 10, and the price level is 2. From this initial situation, the central bank increases the nominal money supply to 6. If velocity and output remain unchanged, by how much will the price level increase?

A) 2.4%

B) 20%

C) 24%

D) 50%

The price level will increase 20%. The right answer is B.

Explanation:

In order to calculate how much will the price level increase, we require to calculate according to the data we have the new price level.

Hence, New price level = 6 + [ (1 - 4 / 10) * 2 ]

= 6 + [ (1 - 0.40) * 2 ]

= 6 + (0.60 * 2)

= 6 + 1.20

= $ 7.20

Therefore, the Increase in price level = (7.20 - 6) / 6

= 1.20 / 6

= 0.20=20 %

The price level will increase 20%.