Friedman (1988) suggests two types of effects of the changes in the stock prices on the demand for money and
velocity of money; positive wealth effect and negative substitution effect.
The reason for this was because the
velocity of money and the money multiplier had declined dramatically.
The
velocity of money often falls during recessions or shortly thereafter, and its decline can persist for a long time after an economic recovery has taken hold.
Besides, since the income
velocity of money is defined as the speed with which money changes hands, then it is likely that the behavior of the firm and agent must be more explicitly expressed in the equation of exchange as consumption and firm behavior would change when the price level, income, money or the interest rate change in the economy.
where MO represents money supply, [kappa] is the inverse of the
velocity of money and Y represents income.
The
velocity of money (the frequency at which money is spent, or GDP relative to base money) continues to plunge to historic lows.
Proposition 6 The introduction and popularity of credit cards will not affect the
velocity of money unless the time needed to clear checks can be significantly shortened.
For example, the ease with which prepaid access can be obtained combined with the potential for relatively high
velocity of money through accounts involving prepaid access and anonymous use, may make it particularly attractive to illicit actors." Such people "value the ability to receive and distribute a significant amount of funds without being subject to many of the reporting requirements that would apply to comparable transactions using cash or involving an ordinary demand deposit account at a bank," it said.
For a rise in excess reserves to boost GDP, two conditions must be met: the money multiplier must become stable and the
velocity of money must not decline.
The 46.1 percent decline in nominal Gross National Product during these years was the result of the Fed's mistake of reducing M2, the broader money supply, by 30.9 percent at a time of substantial decline in the
velocity of money, rather than any inadequate fiscal stimulus.
The crash is followed by a flight to safety, which is followed by a steep fall in the
velocity of money as investors hoard cash.