|
Money
Theory 3 - Demand for money - why do we demand money?
Knowledge of the demand for money is quite important to fully understand the effects of monetary policy changes. Traditional Keynesian analysis of the demand for money focuses on three different motives for holding money:
- Transactions demand - this is the most obvious reason for holding money. We need money to be able to spend it, and so hold balances of money appropriate for that. (Think of this as the money that you have in your pocket, wallet or purse!)
- Precautionary demand - we also hold money in case we need to spend it. Unexpected bills or a spur of the moment purchase may mean that we need to hold a little extra money in case. (Think of this as the money that you have in your bank account!)
- Speculative demand - People have to decide how they are going to hold their money. There are of course a number of different ways - we can briefly split it into interest bearing assets or non-interest bearing assets. People will have to make a judgement on the relative merits of holding money in different forms. The interest rate and the ease of access may be two important factors in determining this decision. The speculative demand for money is the amount held for the potential purchase of assets.
For more detail on the relationship between fixed-interest securities and interest rates see the interest rates theory section.
If we show these types of demand for money graphically, we can see the overall demand for money curve. This is often known as the 'liquidity preference schedule', and is simply the three different types of demand for money added together.
|
