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The demand for and supply of money

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The demand for and supply of money

  1. 1. THE DEMAND FOR MONEY • ACCORDING TO THE CLASSICAL VIEW, MONEY IS NOT DEMANDED FOR ITS OWN SAKE. • MONEY IS THE MEDIUM OF EXCHANGE AND THEREFORE IT IS DEMANDED WHENEVER THERE IS SOME EXCHANGE TO BE MADE. • THE DEMAND FOR MONEY ARISES OUT OF TOTAL VOLUME OF TRANSACTIONSTHAT ARE EFFECTED WITH IT.
  2. 2. CONTINUE…. • THE MODERN VIEW OF THE CONCEPT OF DEMAND FOR MONEY, HOWEVER, IS DIFFERENT FORM THE CLASSICAL VIEW. • IT ALSO TAKES INTO CONSIDERATION THE FUNCTION OF STORE OF VALUEALONG WITH THE FUCTION; MEDIUM OF EXCHANGE PERFORMED BY MONEY. • IT MEANS THE DEMAND FOR MONEY ARISES NOT ONLY FOR THE PURPOSE OFTRANSACTION BUT ALSO FOR SOME OTHER REASONS
  3. 3. KEYNNESIAN APPROACH OF DEMAND FOR MONEY • THE DEMAND FOR MONEY ARISES FOR THREE BASIC REASONS: 1. THE TRANSACTIONS MOTIVE 2. THE PRECAUTIONARY MOTIVE 3. THE SPECULATIVE MOTIVE
  4. 4. 1. TRANSACTIONS MOTIVE: • THE DEMAND FOR MONEY TO MEET THE CURRENT TRANSACTIONS OF BUSINESSES AND THE INDIVIDUALS. • TO BRIDGE THE GAP BETWEEN THE RECEIPT OF INCOME AND EXPENDITURETHERE IS DEMAND FOR MONEY. (HOLDING OF CASH) • TO BRIDGE THE GAP PEOPLE DEMAND READY MONEY- TO MEET THE DAY TO DAY EXPENDITURE. • THE BUSINESSMEN ALSO KEEP CERTAIN AMOUNT OF LIQUID CASH TO MEETTHE DAILY EXPENSES OF THE BUSINESS, LIKE PAYMENT FOR RAW MATERIALS AND TRANSPORTATION, WAGE PAYMENT, SALARIES, ETC. • THE TRANSACTION DEMAND FOR MONEY IS INTEREST INELASTIC BUT IT ISDIRECTLY RELATED TO THE VOLUME OF INCOME.
  5. 5. 2. PRECAUTIONARY MOTIVE: • THERE IS DEMAND FOR MONEY BY PEOPLE TO MEET THE UNFORESEEN EXPENSES. • THE PEOPLE HOLDS LIQUID CASH TO PROVIDE FOR SICKNESS, ACCIDENTS,UNEMPLOYMENT AND OTHER UNCERTAINTIES. • THE PEOPLE WHO DESIRES THE FUTURE SECURITY MAY HAVE HIGHER DEMAND FOR MONEY FOR THIS PURPOSE. • THIS DEMAND IS VERY SENSITIVE TO THE LEVEL OF INCOME, AND IT ALSO DEPENDS ON THE CONDITIONS IN WHICH A PERSON LIVES. • THIS DEMAND IS ALSO INTEREST INELASTIC.
  6. 6. 3. SPECULATIVE MOTIVE: • TO TAKE THE ADVANTAGES OF THE FUTURE CHANGES IN THE RATE OF INTEREST, THE PEOPLE DESIRES HOLD LIQUID CASH. • THE EXPECTATION OF INCREASE IN RATE OF INTEREST WILL INCREASE THE SPECULATIVE DEMAND FOR MONEY AND VICE VERSA. • IN CASE OF HIGH RATE OF INTERESTS IN CURRENT TIME THE PEOPLE WILL TAKE THE ADVANTAGE OF IT BY DEPOSITING THE MONEY IN BANKS. • THE RE IS INVERSE RELATIONSHIP BETWEEN THE DEMAND FOR MONEY FORSPECULATIVE MOTIVE AND RATE OF INTERESTS.
  7. 7. PROF. MILTON FRIEDMAN’S VIEW REGARDING DEMAND FOR MONEY. • THE DEMAND FOR MONEY IS AFFECTED BY THE FOLLOWING 4 FACTORS. 1. PRICE LEVEL 2. LEVEL OF REAL INCOME AND PRODUCTION IN THE ECONOMY 3. RATE OF INTEREST 4. RATE OF PRICE RISE
  8. 8. • THE DEMAND FOR MONEY AND THE PRICE LEVEL IS DIRECTLY RELATED WITH EACH OTHER. • SAME WAY THE DEMAND FOR MONEY AND THE LEVEL OF REAL INCOME IS ALSO DIRECTLY RELATED. • THERE IS INVERSE RELATIONSHIP BETWEEN THE RATE OF INTEREST AND THE RATE OF PRICE RISE ON THE ONE HAND AND THE DEMAND FOR MONEY ON THE OTHER HAND.
  9. 9. THE SUPPLY OF MONEY • THE SUPPLY OF MONEY MEANS THE TOTAL STOCK OF MONEY IN THE ECONOMY AT A PARTICULAR POINT OF TIME. • THE TOTAL STOCK OF MONEY MEANS THE QUANTITY OF MONEY IS THE TOTAL AMOUNT OF MONEY IN CIRCULATION. • THE QUANTITY OF MONEY GENERALLY COMPRISES OF: • CURRENCY MONEY, THAT IS, COINS AND PAPER NOTES IN THE CIRCULATION ISSUED BY THE GOVERNMENT OR THE CENTRAL BANK. • DEMAND DEPOSITS OF THE COMMERCIAL BANKS. • HERE THE ABOVE MENTIONED TWO POINTS PROVIDES THE NARROW DEFINITION FOR THE SUPPLY OF MONEY. (M1)
  10. 10. CONCEPTS OF M1, M2, M3, M4: 1. M1: MONEY SUPPLY WITH THE PUBLIC + DEMAND DEPOSITS OF THE COMMERCIAL BANKS 2. M2: M1 + TIME DEPOSITS OF THE COMMERCIAL BANKS 3. M3: M2 + THE POSTAL DEPOSITS 4. M4: M3 + ALL THE OTHER NEAR MONEY INSTRUMENTS
  11. 11. FACTORS AFFECTING SUPPLY OF MONEY: 1. THE AMOUNT OF BANK CREDIT TO THE GOVERNMENT: • TO MEET WAR EXPENSES, SCHEMES OF ECONOMIC DEVELOPMENT, INCREASE IN THE NON DEVELOPMENT EXPENDITURE THE GOVERNMENT MAY DEMAND CREDIT FROM THE RBI, THIS WILL INCREASE THE QUANTITY OF MONEY IN THE ECONOMY. ( DEFICIT FINANCING: WHEN RBI PRINTS THE CURRENCY NOTE ON THE DEMAND OF GOVERNMENT) 2. THE AMOUNT OF BANK CREDIT TO THE PRIVATE SECTOR: • LOANS AND ADVANCES FOR THE PRODUCTIVE PURPOSE TO THE TRADE AND BUSINESSES • ADVANCES TO THE CUSTOMERS FOR ACQUIRING THE DURABLE CONSUMER GOODS. • THIS CREDIT CREATION PROCESS WILL ADD TO THE TOTAL MONEY SUPPLY IN THE ECONOMY.
  12. 12. 3. BALANCE OF PAYMENT SITUATION: • IN CASE OF ADVERSE BALANCE OF PAYMENT SITUATION, GOVERNMENT TRIES TO MEET IT BY THE USE OF FOREIGN EXCHANGE RESERVES. ( PAST ACCUMULATED FOREIGN EXCHANGE) – PAYMENT TO THE FOREIGN EXPORTERS. • TO THAT EXTENT MONEY SUPPLY REDUCES IN THE ECONOMY AND VICE VERSA. 4. VELOCITY OF CIRCULATION OF MONEY: • THE TOTAL SUPPLY OF MONEY OVER A PERIOD OF TIME. • THE RATE OF CIRCULATION OF COINS AND CURRENCY NOTES IS THE VELOCITY OF CIRCULATION OF MONEY. • HIGHER THE VELOCITY, HIGHER THE TOTAL QUANTITY OF MONEY IN THE ECONOMY AND VICE VERSA.

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