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    Demand For Money

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    monsterking58
    The document discusses several theories of the demand for money, including Irving Fisher's transaction approach, the Cambridge cash balance approach, and Keynes' liquidity preference theory which identified transaction, precautionary, and speculative motives for holding money. It also covers Milton Friedman's theory that wealth can be held as money, bonds, equity or durable goods, and that the demand for real money balances depends on wealth, rates of return, price levels, expected inflation, and institutional factors.

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    Demand For Money

    Uploaded by

    monsterking58
    64 views23 pages
    The document discusses several theories of the demand for money, including Irving Fisher's transaction approach, the Cambridge cash balance approach, and Keynes' liquidity preference theory which identified transaction, precautionary, and speculative motives for holding money. It also covers Milton Friedman's theory that wealth can be held as money, bonds, equity or durable goods, and that the demand for real money balances depends on wealth, rates of return, price levels, expected inflation, and institutional factors.

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    Demand for Money

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    The document discusses several theories of the demand for money, including Irving Fisher's transaction approach, the Cambridge cash balance approach, and Keynes' liquidity preference theory which identified transaction, precautionary, and speculative motives for holding money. It also covers Milton Friedman's theory that wealth can be held as money, bonds, equity or durable goods, and that the demand for real money balances depends on wealth, rates of return, price levels, expected inflation, and institutional factors.

    Copyright:

    Attribution Non-Commercial (BY-NC)
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    64 views23 pages

    Demand For Money

    Uploaded by

    monsterking58
    The document discusses several theories of the demand for money, including Irving Fisher's transaction approach, the Cambridge cash balance approach, and Keynes' liquidity preference theory which identified transaction, precautionary, and speculative motives for holding money. It also covers Milton Friedman's theory that wealth can be held as money, bonds, equity or durable goods, and that the demand for real money balances depends on wealth, rates of return, price levels, expected inflation, and institutional factors.

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    Attribution Non-Commercial (BY-NC)
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    of 23

    known in the name of Prof.Irving Fischers Cash Transaction approach.

    Equation: MV = PT M= Stock of money, V= Velocity of circulation, P= Price level and T = Volume of transactions.

    Demand for money is the product of the volume of transactions overtime and the price level divided by the average velocity circulation of money.Money demand equation: Md = 1/V x PT

    Assuming that T and V remains constant in the short period ,demand for money will directly change with the change in the price level. According to Irving Fischer ,in the short period, changes in the price level are directly related to the changes in the money supply. He defines money supply as Ms = PT/V. As Md = PT/V, it can be said that Md = Ms. Thus according to Fisher, the demand for money is always equal to the supply of money.

    The Cambridge approach or the Cash balance approach to the demand for money was put forward by the Cambridge economists Marshall and Pigou. Both Marshall and Pigou are considered neoclassical economists. These economists emphasized the store of value function of money as against the medium of exchange function of money emphasized by Fisher. According to the neo-classical economists, demand for money is the amount of money people want to hold or the cash balances held by the people.

    The total demand for money is the sum of individuals desire to hold cash balances in the community. The amount of cash balances held the people in any given period of time is determined by the following factors: 1) Current price level and expected changes 2) Current interest rate and expected changes 3) Wealth owned by individuals The neo-classical economists believed that these factors remain constant in the short run.

    The neo-classical money-demand function can be stated as follows: Md = KPY Md = Demand for money = Proportion of national income held in the form of cash balances by the people,PY = Nominal national income

    The General Theory of Employment, Interest and Money. Three reasons or motives - the transaction motive, the precautionary motive and the speculative motive.

    Total cash balances

    Active

    Idle

    transactional

    precautionary

    speculative

    The transaction demand for money arises due to the fact that money is a medium of exchange. Further receipts and payments are an ongoing affair in the routine course. Transaction motive for holding money is the need of cash for the current transactions of personal business expenditure.

    1) 2) 3) 4)

    Households hold money on account of the transaction motive of households. It depends upon the following: The level of income The Price level The Spending Habits The Time interval

    Firms need cash balances to pay for raw materials, transport, wages and salaries etc... Business motive. It can be stated as: Lt = f(Y) Lt = Liquidity preference under transactions motive Y = Level of national income

    cash balances held for unforeseen requirements is referred to as precautionary demand for money. It is Interest inelastic and changes in response to changes in uncertainty. Lp = f(Y),Lp = Liquidity preference under precautionary motive.

    cash balances held by people for speculative purposes are known as demand for idle cash balances It originates from uncertainity about the future rate of interest. Speculative demand for money arises because of the store of value function of money.

    Investors make capital gains by speculating in securities or bonds. The demand for speculative cash balances is inversely related to the rate of interest. When people expect the prices of income yielding assets such as bonds to fall, the speculative demand for money rises and vice versa. Symbolically,it can be stated as follows: L2 = f(i)

    At a very low rate of interest, the speculative demand for money is perfectly elastic percentage change in the demand for money in response to a percentage change in the rate of interest is equal to infinity. Symbolically, the liquidity trap can be stated as follows: M = I/ i = @

    The aggregate or total demand for money Symbolically, the aggregate demand for money can be stated as follows: L= L1 +L2 The functional relationship

    Most stable function. Demand for money is demand for capital assets because money also provides services and returns. The return on monetary wealth is the quantity of goods and services that can be purchased at a given price level. Bonds Equity share

    Friedman considered that wealth can be held by people in the form of capital and durable consumer goods . But these goods provide returns in kind and not in cash along with returns in the form of expected rate of change in their prices per unit of time. Milton Friedmans nominal money demand function can be stated as follows: Md = f (W, h,rm, rb, re, P, P/P U)

    Demand for real money balances can be obtained by dividing nominal money demand by the price level. It is stated as: Md/P = f (W, h, rm, rb, re, P,P/P U) Md = Nominal money demand, Md/P = Demand for real money balances W = Wealth of the individual h= Proportion of human wealth to the total wealth held by the people. rm = Interest income from money holdings

    rb = Interest rate on bonds re = Rate of return on equity shares P = Price level P/P = Change in the price level U = Institutional factors According to Friedman,following factors determine the demand for money:

    1) Wealth (W) 2) Rates of Return (rm,rb, re) (3) Price Level (P) (4) The Expected rate of Inflation (P/P) (5) Institutional Factors (U)

    Why was Friedman wrong

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