The average number of times a unit of money changes hands to buy goods and services in a given period, measuring how fast money circulates in the economy.
- It is defined as the ratio of nominal income (or nominal GDP) to the money supply: velocity equals nominal GDP divided by money supply.
- It appears in the quantity theory of money, written as MV equals PT (or MV equals PY): money supply times velocity equals the price level times the volume of transactions (or output).
- If velocity is stable, then changes in the money supply translate into changes in prices and output, the basis for monetarist policy.
- High velocity means money circulates quickly (active spending); low velocity means people hold on to money (as in a concept liquidity trap).
- It links to concept money supply and aggregates and to the management of inflation through money supply.
The definition (how often money turns over, nominal GDP divided by money supply) and the equation MV equals PT are testable monetary-theory facts.
Velocity of money is the turnover rate of money, not the quantity of money; in the equation MV equals PT, V is velocity, distinct from M (money supply).
How fast money circulates (nominal GDP divided by money supply); central to the quantity theory equation MV equals PT.