Refer to the above diagrams. The liquidity of an asset refers to how quickly the asset can be turned into cash, and since money is already cash, it is the most liquid asset possible! The equilibrium interest rate is: A. If you stay at the old interest rate of i˳ when the supply of money falls, then the demand for money will exceed the supply of money. This is probably the reason that so many people hold onto cash as a store of value, as will be seen when we talk about the components of the money supply. When you have completed all the questions and reviewed your answers, press the button below to grade the test. Lesson Summary It's time to review.
It rises, from r1 to r2. Defensive purchases are typically conducted by using repurchase agreements, while reverse repos or matched sale-purchase transactions are used to conduct defensive open market sales. This model is meant to describe the behavior of consumers in the aggregate, not as individuals. Here's what this equilibrium looks like. If a 5 percent change in the price results in a 15 percent change in demand, the demand is highly elastic.
What happens to the nominal interest rate? It does not take much imagination to see how money is useful to facilitate exchanges that would be difficult by barter. Adjustments to a Decrease in the Demand for Money — When the demand for money decreases shifts to the left the interest rate falls. All figures are in billions. Assuming consumers to be rational decision maker, we expect quantity of money demanded to decrease as rate of interest rises because other assets would become more attractive in such a scenario. The interest rate on your credit card is different than the interest rate for a car loan, which is different than the rate you might be charged on a home loan. Return to the course in I-Learn and complete the activity that corresponds with this material.
. At the same time, although Margie may not realize it, the central bank is controlling how much money is available - what economists call the 'supply of money'. How much regular gasoline could you trade for a pound of roast beef? Consumers and businesses have a demand for money, including cash and checking and savings accounts, and they use financial institutions for this purpose. Money has an advantage over other assets because it is very liquid. So now you have a better understanding of what the money market is, what's going on inside of it, and why. Equilibrium in the money market takes place when the quantity of money demanded is equal to the quantity supplied.
Save Question 20 1 point Which of the following best describes the effect of the zero interest rate policy implemented in December 2008? This interaction is part of the money market, and we can illustrate it using a supply curve. The liquidity of cash is the advantage of holding cash. In an emergency, the cash is the most liquid asset that the person has, and is far more spendable than a painting or a piece of jewelry that might take weeks to turn into cash. There is an inverse relationship between price and demand, meaning that when one rises, the other falls. It forced nominal interest rates to below zero. M2 is a broader and less liquid definition of the money supply.
Store of Value Money is a store of value because it is a liquid or spendable source of wealth. What if the owner of the tennis shoes does not happen to want a pig or any portion of a pig? Other things equal, the money demand curve in the diagram would shift leftward if: A. Hence demand for money increases as real output increases or as price rises. Money makes this calculation possible because it is a measure of value. What would you do if you were running a bank and more people came in demanded money than there were coming in and supplying money? The transactions demand for money is using money as a medium of exchange. Medium of Exchange Money is the means by which we purchase goods and services.
Question 15 options: Open-market operations. Let's look first at an example of money demand changing and then see what happens when the supply of money changes instead. Question 13 1 point On a diagram where the interest rate and the quantity of money demanded are shown on the vertical and horizontal axes respectively, the transactions demand for money can be represented by: Question 13 options: a line parallel to the horizontal axis. An increase in the price of umbrellas, for example, might not stop someone who needs an umbrella from buying one, but it might stop someone who already has an umbrella from buying a second in a different color. Economists illustrate money demand using a demand curve, just like they do in the market for products and services. The vertical axis of the graph represents the price of the good in question; the horizontal axis represents the quantity demanded.
Notice that the demand curve for money is downward sloping, which means that people want to hold less of their wealth in the form of money the higher that interest rates on bonds and other alternative investments are. Section 02: The Money Supply There are two widely used definitions of the money supply. A good with a price far below what the market is willing to pay will appear toward the lower right — very low price, very high demand. On the other hand, if a 5 percent change in price produces only a 0. R-1 F13072 Refer to the above diagram of the money market. The asset demand for money is downsloping because bond prices and the interest rate are directly related.
Section 04: The Money Market We will make a simplifying assumption that the supply of money is set by Federal Reserve policy, and is therefore shown graphically as a vertical line. Which of the following is correct? The more inelastic the demand for a good, the more vertical the slope of the curve. Save Question 16 1 point An expansionary monetary policy may be less effective than a restrictive monetary policy because: Question 16 options: the Federal Reserve Banks are always willing to make loans to commercial banks that are short of reserves. When the supply of money is increased by the central bank, the supply curve for money shifts to the right, leading to a lower interest rate. All numbers are in billions of dollars. If the interest rate paid on excess reserves is set below the federal funds rate, an increase in the interest rate paid on excess reserves will only cause an increase in the federal funds rate if the interest rate paid on excess reserves is increased above the original federal funds rate level.
You can use similar logic to analyze each of the other three scenarios. When money demand increases, the demand curve for money shifts to the right, which leads to a higher nominal interest rate. Adjustments to a Decrease in the Supply of Money — When the supply of money decreases shifts to the left the interest rate goes up. How would he be able to do this? A graph representing the downward slope of the demand curve The money market is an economic model describing the supply and demand for money in a nation. Consumers and businesses always have the option of keeping their wealth in form of either cash which is more convenient and liquid or in form of other interest earning assets like government bonds, saving deposits etc.