Which of the following correctly describes the equation of exchange?

The equation of exchange is a fundamental concept in economics, particularly in the study of money supply and its impact on the economy. The equation is typically expressed as MV = PY, where M is the money supply, V is the velocity of money, P is the price level, and Y is the real output or national income.

Each part of the correct answer captures different aspects of this concept:

The first assertion highlights the relationship between expenditures and income, which reflects the circular flow of income in an economy. This means that the money spent in the economy ends up as income for others, showcasing the interconnectedness of economic activities.

The second assertion emphasizes that the equation of exchange is indeed an accounting identity. An accounting identity is a mathematical statement that must always hold true due to the definitions of the terms involved. Hence, regardless of the economic conditions or behaviors, the equation remains valid.

The third assertion directly correlates the components of money supply and velocity with nominal national income, demonstrating how changes in the money supply or the velocity of money influence the overall level of economic activity, typically reflected in the nominal GDP.

Together, these points articulate a comprehensive understanding of how money interacts with the economy, justifying why all the provided statements collectively encapsulate the essence of the