Suppose a country has a money demand function (M/P)d = kY, where k is a constant parameter. The money supply grows by 12 per year, and real income grows by 4 percent per year.

a) What is the average inflation rate?

b) How would inflation be different if real income growth were higher? Explain.

c) Suppose, instead of a constant money demand fucntion, the velocity of money in this economy was growing steadily because of financial innovation. How would that affect the inflation rate? Explain.