Introductory Macroeconomics

Book: Introductory Macroeconomics

Chapter: 3. Money And Banking

Subject: Social Science - Class 12th

Q. No. 5 of Exercises

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Why is speculative demand for money inversely related to the rate of interest?

Speculative demand for money is demand for money as store of wealth. To simplify, Keynes has divided all the assets except money in a single category called bonds. So there are two types of assets money and bonds.

Speculative demand for money is inversely related to the rate of interest. Higher the rate of interest the smaller will be speculative demand for money and vice a versa. Therefore curve of speculative demand for money is downward sloping to the right.

There are two situations –

If market rate of interest is very high, everyone expects it to fall in future (that is rise in the price of bond), so they anticipate capital gain from bond holding and people will convert their money into bonds. So the speculative demand for the money will be low.

If the rate of interest is low, people will expect it to rise in future and the price of bond will fall. Due to which capital loss from bond holding is anticipated and people will convert their bonds into money in order to avoid future loss. Thus speculative demand for money will be high.


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