Page 145 - DECO201_MACRO_ECONOMICS_ENGLISH

Macro Economics

Notes People hold money because money is useful for buying things; and because they want to
take advantage of fluctuating prices of bonds. The two motives are called (i) Transactions
and (ii) Speculative motives of holding money. The relation between ROI and these motives
is explained latter.
2. GDP: People demand money to carry out transactions. The rupee value of transactions
depends upon (i) total number of transactions and (ii) average rupee amount of each
transaction. Out of these, number of transactions depends upon GDP mainly. Average
rupee amount of each transaction depends upon price level.
A rise in GDP means there is more economic activity. It further means more transactions
and more requirement of money to carry out transactions. Higher the GDP, more the demand
for money.
3. Price Level: Price level determines average rupee amount of each transaction. If price level
rises, firms and households would need more money balances to carry out day to day
transactions. Higher the price level, higher the demand for money.

Task Find out what is free banking and how is it relate to demand for money?

Shift of Md curve and movement along Md curve

Money demand (Md) curve shows relation between change in ROI and Md, assuming GDP and
price level to be unchanged. A change in ROI thus leads to movement along the Md curve. i.e.
“change in quantity of Dm”. Changes in GDP and price level cause shift of Md curve, i.e. “change in
Md”. (Figure 8.2)

Figure 8.2
Y
R / I

Md
2
Md
1
X
O Money(M)
Figure. 12.2
A rise in GDP or in price level leads to rightward shift of demand curve.

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