These are original Marlbridge practice questions, not past exam questions. All questions use Valdoria, a fictional country whose currency is the valda (VD); all figures are fictional. The rubrics are a suggested Marlbridge rubric to help you check your work; they are not an official scoring guideline. Notation: M = money supply (VD billion), V = velocity, P = price level (index ÷ 100), Y = real GDP (VD billion at base-year prices). A four-function calculator is enough.
Question 1 (multiple choice · foundation)
Valdoria’s money supply is VD 500 billion, the velocity of money is 6 and real GDP is VD 2,000 billion. According to the equation of exchange, what is the price level?
- (A) 0.25
- (B) 0.67
- (C) 1.50
- (D) 4.00
Answer and explanation
Answer: (C). P = (M × V) ÷ Y = (500 × 6) ÷ 2,000 = 3,000 ÷ 2,000 = 1.50, an index of 150.
- (A) ignores velocity: 500 ÷ 2,000 = 0.25. Each valda is spent 6 times, so spending is 3,000, not 500.
- (B) inverts the ratio: 2,000 ÷ 3,000. Total spending goes on top, real output below.
- (D) divides real GDP by the money supply (2,000 ÷ 500). That mixes a real quantity with a nominal one and is not P.
Question 2 (multiple choice · core)
Valdoria is at full employment and velocity is constant. According to the quantity theory of money, what is the long-run effect of a 6% increase in the money supply?
- (A) Real GDP rises by 6% and the price level does not change.
- (B) The price level rises by 6% and real GDP does not change.
- (C) The price level and real GDP each rise by 3%.
- (D) The price level and real GDP each rise by 6%.
Answer and explanation
Answer: (B). With V constant, M × V rises by 6%, so P × Y must rise by 6%. In the long run Y is fixed at full employment by real resources, so all of the change falls on P.
- (A) describes money raising real output, which cannot last once wages adjust. Money is neutral in the long run.
- (C) splits the change between prices and output. That can happen in the short run, but not in the long run at full employment.
- (D) would need P × Y to rise by about 12%, twice the rise in M × V.
Question 3 (multiple choice · core)
Valdoria’s money supply grows by 7% a year, velocity is constant and full-employment real GDP grows by 2% a year. Which is the best estimate of Valdoria’s long-run inflation rate?
- (A) 9%
- (B) 7%
- (C) 5%
- (D) 3.5%
Answer and explanation
Answer: (C). Inflation ≈ money growth + velocity growth − real GDP growth = 7% + 0% − 2% = 5%. (The exact value is 1.07 ÷ 1.02 − 1 = 4.90%.)
- (A) adds real growth instead of subtracting it. Extra goods absorb some of the extra money.
- (B) ignores real growth. 7% inflation would need real GDP to stay constant.
- (D) divides money growth by real growth. The rule uses subtraction, not division.
Question 4 (multiple choice · core)
Valdoria is in long-run equilibrium at full employment. The central bank makes a one-time increase in the money supply. Which describes the economy after full long-run adjustment, compared with the starting point?
- (A) Real GDP is higher, because LRAS shifts right as spending rises.
- (B) Real GDP is the same, because nominal wages rise and SRAS shifts left until output returns to full employment, at a higher price level.
- (C) Real GDP is the same and the price level is the same, because AD shifts back to its original position.
- (D) Real GDP is lower, because higher prices reduce the quantity of real output demanded.
Answer and explanation
Answer: (B). AD shifts right, so output first rises above full employment. Workers then demand higher nominal wages to match higher prices, SRAS shifts left, and the economy returns to full-employment output at a higher price level.
- (A) confuses AD with LRAS. LRAS depends on resources and technology, not on the amount of money.
- (C) assumes AD falls back. The money supply stays higher, so AD stays at its new position; it is SRAS that adjusts.
- (D) treats a movement along AD as a fall in output. In the long run, output is at full employment on the vertical LRAS.
Question 5 (calculation · core)
The table shows Valdoria’s data for three years. Real GDP is at full employment each year.
| Year | M (VD billion) | V | P | Y (VD billion) |
|---|---|---|---|---|
| 1 | 200 | 5.0 | 1.25 | ? |
| 2 | 220 | 5.0 | ? | 800 |
| 3 | ? | 5.5 | 1.54 | 800 |
(a) Calculate real GDP in Year 1. (b) Calculate the price level in Year 2 and the inflation rate from Year 1 to Year 2. Compare it with the growth of the money supply. (c) Calculate the money supply in Year 3. (d) Calculate the inflation rate from Year 2 to Year 3. Explain why it is much higher than the growth of the money supply in that year.
Worked solution and suggested Marlbridge rubric
(a) Y = (M × V) ÷ P = (200 × 5.0) ÷ 1.25 = 1,000 ÷ 1.25 = VD 800 billion.
(b) P = (220 × 5.0) ÷ 800 = 1,100 ÷ 800 = 1.375. Inflation = (1.375 − 1.25) ÷ 1.25 × 100 = 10%. Money grew by (220 − 200) ÷ 200 × 100 = 10%, the same as inflation, because V and Y did not change.
(c) M = (P × Y) ÷ V = (1.54 × 800) ÷ 5.5 = 1,232 ÷ 5.5 = VD 224 billion.
(d) Inflation = (1.54 − 1.375) ÷ 1.375 × 100 = 12%. Money grew by only (224 − 220) ÷ 220 × 100 = 1.82%. Velocity rose by 10% (5.0 to 5.5): each valda was spent more often, so total spending rose much faster than the money supply. With real GDP fixed, the extra spending raised prices. Check: 1.82% + 10% − 0% ≈ 11.8%, close to the exact 12%.
| Point | What earns it |
|---|---|
| 1 | Real GDP of VD 800 billion |
| 1 | P = 1.375 and inflation of 10%, with the comparison to 10% money growth |
| 1 | M = VD 224 billion in Year 3 |
| 1 | Inflation of 12% from Year 2 to Year 3 |
| 1 | Explains the gap by the rise in velocity, with real GDP unchanged |
Accept values carried forward from an earlier error.
Question 6 (constructed response with graph · core)
Valdoria is in long-run equilibrium at full-employment output. The central bank increases the money supply.
(a) Draw a correctly labelled AD–AS graph showing Valdoria’s long-run equilibrium. Label the equilibrium price level PL₁ and full-employment output Yf. (b) On your graph, show the short-run effect of the increase in the money supply. Label the new price level PL₂ and the new output Y₂. (c) Explain how the economy adjusts in the long run, and show the long-run equilibrium on your graph with price level PL₃. (d) Valdoria’s central bank now keeps raising the money supply by 5% every year. Velocity is constant and real GDP stays at full employment. Using the quantity theory of money, state the long-run inflation rate.
Model answer and suggested Marlbridge rubric
(a) Axes labelled price level (vertical) and real GDP (horizontal). A downward-sloping AD₁, an upward-sloping SRAS₁ and a vertical LRAS at Yf all meet at PL₁. See Figure 1 in the study guide for the shape.
(b) AD shifts right to AD₂. The new short-run equilibrium (AD₂ with SRAS₁) has output Y₂ greater than Yf and price level PL₂ greater than PL₁.
(c) Output is above full employment, so labour is scarce and workers demand higher nominal wages to make up for higher prices. Higher input costs shift SRAS left to SRAS₂. The economy returns to Yf on LRAS, where AD₂ meets SRAS₂, at PL₃, which is higher than PL₂.
(d) 5%. With V and Y constant, the price level grows at the same rate as the money supply.
| Point | What earns it |
|---|---|
| 1 | Correctly labelled graph with AD, SRAS and a vertical LRAS meeting at PL₁ and Yf |
| 1 | AD shifts right, with Y₂ > Yf and PL₂ > PL₁ |
| 1 | Explains that nominal wages (input prices) rise because output is above full employment |
| 1 | SRAS shifts left; long-run equilibrium at Yf with PL₃ > PL₂ |
| 1 | Long-run inflation of 5% |
The fourth point needs both the left shift of SRAS and output back at Yf. A graph with LRAS shifting earns no credit for (c).
Question 7 (constructed response · stretch)
For several years, Valdoria’s central bank lets the money supply fall by 4% a year. Velocity stays at 4 and full-employment real GDP grows by 2% a year.
(a) Use the growth-rate form of the quantity theory to estimate the annual change in the price level. Name what is happening. (b) In one of these years, M falls from VD 300 billion to VD 288 billion and real GDP rises from VD 900 billion to VD 918 billion. Calculate the price level at the start and end of the year, and the exact percentage change. (c) A student says: “A one-time 10% increase in the money supply would cause 10% inflation every year from then on.” Explain why the student is wrong.
Model answer and suggested Marlbridge rubric
(a) %ΔP ≈ %ΔM + %ΔV − %ΔY = −4% + 0% − 2% = −6%. The price level falls about 6% a year: this is deflation, caused by a sustained fall in the money supply.
(b) Start: P = (300 × 4) ÷ 900 = 1,200 ÷ 900 = 1.333. End: P = (288 × 4) ÷ 918 = 1,152 ÷ 918 = 1.255. Change = (1.2549 − 1.3333) ÷ 1.3333 × 100 = −5.88%, close to the −6% estimate.
(c) A one-time increase in M shifts AD right once. In the long run the price level rises once, by about 10%, to a new higher level, and then stays there. Inflation is a continuing rise in the price level, so it needs the money supply to keep growing faster than real output year after year. After a one-time increase, the long-run inflation rate goes back to what money growth, velocity and output growth imply.
| Point | What earns it |
|---|---|
| 1 | About −6% a year, identified as deflation |
| 1 | Both price levels (1.333 and 1.255) |
| 1 | Exact change of −5.88% |
| 1 | One-time increase in M gives a one-time rise in the price level |
| 1 | Continuing inflation needs sustained money growth faster than real output |
Accept prices given as index numbers (133.3 and 125.5).
How did you do?
- Q1 or Q5(a)–(c) wrong: practise rearranging MV = PY; see “The equation of exchange” and Worked example 1 in the study guide.
- Q2 or Q6(d) wrong: re-read “The quantity theory of money”.
- Q3, Q5(d) or Q7(a)–(b) wrong: revisit “The quantity theory in growth rates”, Worked example 2 and “When velocity changes”.
- Q4 or Q6(a)–(c) wrong: revisit “Showing it on an AD–AS graph” and Figure 1.
- Q7(c) wrong: re-read “Inflation as a monetary event”.
Then tick off the topic checklist.