Demand and supply of money pdf
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- Factors Affecting the Supply of and Demand for Money (Financial Economics)
- Demand and Supply of Money
- Supply and demand
In this section we will explore the link between money markets, bond markets, and interest rates. We first look at the demand for money. We then link the demand for money to the concept of money supply developed in the last chapter, to determine the equilibrium rate of interest.
Transactions motive. The transactions motive for demanding money arises from the fact that most transactions involve an exchange of money. Because it is necessary to have money available for transactions, money will be demanded.
Factors Affecting the Supply of and Demand for Money (Financial Economics)
The demand for money refers to the total amount of wealth held by the household and companies. The demand for money is affected by several factors such as income levels, interest rates, price levels inflation , and uncertainty. The impact of these factors on the demand for money is explained in terms of the three primary reasons to hold money. The three reasons are:.
Transactions: This is the money needed for fulfilling transactions. As the total number and size of transactions increases in an economy, the transaction demand for money also increases. Precautionary: This is the money needed for uncertain future needs, for example, unexpected medical expenses. The precautionary demand for money increases as the size of economy increases. Speculative: People also hold money for speculative purposes so that they can take advantage of investment opportunities in the future.
If the current returns on financial products are high, people will rather invest than hold money with a speculative motive. We can say that the demand for money for speculative motive increases with the increase in perceived risk in other financial instruments. There is an inverse relationship between the short-term interest rates and the demand for money that households and firms want to hold. If the interest rates are low, the demand for money is high and if the interest rates are high, the demand for money is low.
This is because as interest rates increase, the opportunity cost of holding money increases, and people will be better off by investing in other financial instruments than holding money. The supply of money in an economy is controlled by its central bank, for example, Fed in the US. The Fed may change the money supply by using open market operations or by changing reserve requirements. As you can see, the money supply curve is completely inelastic. The money demand curve is downward sloping, i.
The short-term interest rate i is determined by the equilibrium of the supply and demand for money. If the interest rates are above the equilibrium, there is excess supply of money. This means the households and firms are holding more money and they will purchase securities to lower their money balances. This will lead to an increase in security prices and a drop in interest rates.
Similarly, if interest rates are lower than the equilibrium rate, there is excess demand for money and people desire to hold money than they actually have. To do so, firms and households will sell securities, which will decrease the security prices and increase the interest rates.
The central bank can change the money supply, which will influence the interest rates. An increase in money supply will create excess supply, which will put a downward pressure on interest rates. Your email address will not be published.
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Demand and Supply of Money
The demand for money refers to the total amount of wealth held by the household and companies. The demand for money is affected by several factors such as income levels, interest rates, price levels inflation , and uncertainty. The impact of these factors on the demand for money is explained in terms of the three primary reasons to hold money. The three reasons are:. Transactions: This is the money needed for fulfilling transactions. As the total number and size of transactions increases in an economy, the transaction demand for money also increases. Precautionary: This is the money needed for uncertain future needs, for example, unexpected medical expenses.
Supply and demand
M Lavoie, Note and comment. The purpose of this note is to reconsider the puzzle arising from a theory of endogenous credit-money: if the supply of bank credit is the source of bank deposits, what would occur when the supply of bank deposits exceeds the demand for deposits? It has recently been argued that changes in interest rate differentials would be the primary mechanism through which such an inequality could be reduced back to equality. The argument here is that such a mechanism is a secondary one, akin to Kaldor's reflux principle, which is itself the primary mechanism, when properly generalised to increases in advances generated by the private, the public, and the external sectors, and when reflux is extended to all agents, including households and banks.
In economics, the demand for money is the desired holding of financial assets in the form of money cash or bank deposits.
The demand for money refers to how much assets individuals wish to hold in the form of money as opposed to illiquid physical assets. It is sometimes referred to as liquidity preference. The demand for money is related to income, interest rates and whether people prefer to hold cash money or illiquid assets like money. Transaction demand for money — the money we need to purchase goods and services in day to day life. In the classical quantity theory of money.