18. There are fundamentally two possible changes in an economy that will each cause inflation
unless other compensating changes also occur. There changes are either reductions in the supply
of goods and services or increases in demand. In a prebanking economy the quantity of money
available, and hence the level of demand, is equivalent to the quantity of gold available.
If the statements above are true, then it is also true that in a prebanking economy
(A) any inflation is the result of reductions in the supply of goods and services
(B) if other factors in the economy are unchanged, increasing the quantity of gold available
will lead to inflation
(C) if there is a reduction in the quantity of gold available, then, other things being equal,
inflation must result
(D) the quantity of goods and services purchasable by a given amount of gold is constant
(E) whatever changes in demand occur, there will be compensating changes in the supply of
goods and services
Please explain the above questions solution.
from question stem we can infer that,
1. reductions in the supply of goods and services will cause inflation.
2. increases in demand will cause inflation
3. In a prebanking economy, the level of demand, is equivalent to the quantity of gold available
so we can say that,
(i). quantity of gold is directly proportional to the inflation. i.e. as quantity of gold increases, the inflation occurs
coming to answer stem:
A. any inflation is the result of both
reductions in the supply of goods and services, and increases in demand. also this is for 'general' economy. but the questions stresses on prebanking economy.---no
B. this is the correct answer. a paraphrase of our point (i).
C. this is a reverse answer. an opposite statement of our point (i)---no
D. the relationship between the quantity of goods and services and amount of gold, in the prebanking economy, is not stated in the argument.---no
E. relation between the changes in demand and changes in supply of goods and services is not mentioned in the argument. what is mentioned is the effect of these both, individually, on the economy.---no
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