Velocity of circulation
Also called: Velocity of money · Topic: Banking, Credit Creation and Monetary Policy · NCERT: Class 12, Ch 3 "Money and Banking"
Meaning
Velocity of circulation is the number of times one unit of money changes hands in a given period. It shows how hard each rupee works. Because of this, a small stock of money can support a much larger value of transactions. It is the inverse of k, the share of transactions people hold as money: v = 1/k, and v × Md = T Here Md is the demand for money and T is the value of transactions.
Example
Imagine an economy of two people who buy ₹200 worth of goods from each other in a month using only ₹100 of money. Each rupee changes hands twice, so v = 2. In other words, ₹100 × 2 = ₹200 of transactions.
Don't confuse with
- Money multiplier: this shows how many rupees of money supply are created from one rupee of high-powered money through bank lending. Velocity shows how often existing money is spent.
Related concepts
- Interest rate
- Liquidity
- Opportunity cost of holding money
- Demand for money
- Transaction motive
- Speculative motive
- Liquidity trap