3/22/17: The Money Market (Supply & Demand for Money)

• Demand for money has an inverse relationship between nominal interest rate & the quantity of money demanded.

1. What happens to the quantity demanded of money when interest rates increase?
• Quantity demanded falls bc individuals would prefer to have interest earning assets instead of borrowed liabilities.
2. What happens to the quantity demanded when interest rates decrease?
•  Quantity demanded increases. There is no incentive to convert cash into interest earning assets.

• Money Demand Shifters
1. Changes in Price Level
2. Change in Income
3. Change in taxation that affect investment

• Increasing Money Supply
• If the FED increases the money supply, a temporary surplus of money will occur at 5% interest.
• The surplus will cause the interest rate to fall to 2%