161 Questions
Why is there a need for money, as discussed in Chapter 2?
To facilitate barter trade
What is the aim of studying money demand in this chapter?
To explain the quantity of money individuals and economies demand
What does a reduced form equation represent?
A mixture of both money demand and supply equations
When will a changing policy stance by the authorities cause the reduced form relationship to alter?
Never
What issues need to be addressed before any meaningful interpretation can be taken from empirical results?
Stationarity, spurious regressions, and co-integration
What are the four main microeconomic determinants of money demand?
Income, interest rates, inflation, and output
Who provided a review of the stability of the demand for money function?
Judd and Scadding
What is the importance of studying the demand for money?
To understand the dynamics of money supply and demand
What does an individual expect to experience on his bond holdings when he expects the interest rate to rise?
Capital loss
In Keynes' assumption, when the interest rate was below what individuals expected in the long run, what form would they put all of their financial wealth in to avoid capital loss?
Money
What does the individual want to hold when the interest rate is expected to fall, leading to a capital gain from holding bonds?
Bonds
Which function is used to model the transaction demand for money by allowing more flexible assumptions on the expected pattern of expenditures and receipts?
Step function
In the Baumol model, what is the objective when managing an inventory of cash and other interest-earning assets?
Maximize profits or minimize costs
What determines the cost in the cash manager's cost minimization problem in the Baumol model?
Interest foregone by holding money and brokerage costs
What are the elasticities of money demand with respect to income and interest rate earned on alternative assets?
-1/2 and 1/2
What type of pattern does the model generate for money holdings in Figure 3.2?
'Saw tooth' pattern
In Activity 3.1, what does the diagram show as the optimal number of times to transfer between bonds and money?
4
What does T represent in the Baumol model?
Value of cash manager’s expenditures
What kind of relationship does average money demand have with brokerage cost, b?
Positive relationship
What function is used to model the speculative demand for money?
Step function
What are the four main microeconomic determinants of money demand?
Interest, cost of transfers, price uncertainty, expected pattern of expenditures and receipts
According to Keynes, what is the transaction demand for money?
Money needed to buy goods and services as a medium of exchange
What does the speculative demand for money consider money as?
An alternative to interest earning assets
What is the expected pattern of expenditures and receipts related to in terms of money demand?
Demand for money motives
What is the main factor affecting the demand for money due to the cost of transfers?
Brokerage fees
What does the risk aversion directly influence in terms of money demand?
Price uncertainty of assets
In relation to the demand for money, what does interest differentials refer to?
Difference between the yield on money and interest rates
Which of the following is NOT a determinant of the demand for apples?
The price of bananas
What does a change in the supply of money lead to?
A change in the value of the determinants of the demand for apples
In the money demand function M d = f (Y, Ri , W ), what does Y represent?
Real income
Why is wealth (W) included in the money demand function?
It forms the budget constraint on which money holdings depend
If money demand is homogenous of degree one in prices, what can be re-written as g(y, Ri )?
$M d = g(y, Ri )$
What does a low value of b imply in the interest elasticity of money demand?
A relatively steep LM curve and a larger effect of fiscal policy on output
What can lead to unexpected and adverse changes in nominal and possibly real factors in the economy?
Unstable money demand function
What was observed about Goldfeld's equation in the 1970s?
It overpredicted real money balances in the US
'The case of the missing money' was attributed to what factor?
Greater financial innovation
'The case of the missing money' was primarily observed in which countries?
UK and US
What does a single equation money demand function's misspecification result in?
Negative results
What was one possible explanation for the breakdown of money demand equations in the 1970s?
Greater financial innovation
According to Tobin’s model of portfolio selection, what is the assumption about the return on money?
Money has a zero rate of return
What is one criticism of the inventory theoretic model?
It assumes perfect knowledge of expenditure and receipts
In Tobin’s model, what is the proportion of financial wealth held in bonds denoted as?
$B$
What does Tobin assume about the variance of the return on money?
The variance is always zero
According to Tobin’s model, what is assumed to be riskless?
Return on money
What was one problem with Keynes’ original ideas of micro level demand for money?
Individuals had certain expectations of interest rate movements
In micro level demand for money, what did Tobin consider money to have in terms of rate of return?
Zero rate of return
What did Tobin's portfolio analysis demonstrate about diversifying wealth?
$\mu$ shifts the lines in the figure resulting in new equilibrium
What do the indifference curves represent in Tobin's portfolio analysis?
$B^$ and $1 - B^$
In macroeconomic determinants of money demand, what does the demand for something allow us to do?
Predict changes in its supply
Why has the demand for money attracted much attention according to the text?
To understand the consequences of changes in its supply
What can be concluded about Tobin's analysis based on the text?
It offers insights into how individuals can maximize utility by choosing between assets in a portfolio
What is the aim of Chapter 3?
To study the microeconomic determinants of money demand
What determines the quantity of money that individuals and economies demand?
The microeconomic determinants of money demand
According to Tobin’s model of portfolio selection, what is the assumption about the return on money?
Low variance
What was one problem with Keynes’ original ideas of micro level demand for money?
Assumption of constant velocity
What can lead to unexpected and adverse changes in nominal and possibly real factors in the economy?
Fluctuations in interest rates
What does an individual expect to experience on his bond holdings when he expects the interest rate to rise?
Decreased value of bond holdings
What is the average money demand, M, positively and negatively influenced by?
The interest rate earned on alternative assets and the brokerage cost
In the Baumol model, what are the costs made up of when considering the cash manager's expenditures?
The brokerage costs and the interest foregone by holding money
What is the interest elasticity of money demand in the Baumol model?
-1/2
In Tobin’s model, what does a low value of b imply in the interest elasticity of money demand?
Low sensitivity of money demand to changes in the interest rate earned on alternative assets
What does a single equation money demand function's misspecification result in?
Inaccurate predictions of money demand
What does Tobin’s model explicitly model in terms of the transactions demand for money?
Transaction frequency
In Tobin’s model, what is the proportion of financial wealth held in bonds denoted as?
$B_t$
What does a reduced form equation represent?
$Y$ and $R_i$ as exogenous variables
Which type of analysis can incorporate a precautionary motive for money holdings?
Transaction demand for money analysis
What are the two forms of costs included in the Baumol model?
Brokerage fees and interest foregone by holding money
What does Tobin consider when modeling transactions demand for money?
Transaction frequency
Why might an equation relating real money balances, income, and interest rates not represent a true money demand equation?
It may be a reduced form equation, representing a mixture of money demand and supply equations.
What issue needs to be addressed before any meaningful interpretation can be taken from empirical results in the context of money demand?
All of the above
In Tobin’s portfolio selection model, what does he assume about the variance of the return on money?
It is constant.
What does the demand for money allow us to do according to the text?
Make monetary transactions.
What issue led to the breakdown of estimated ‘demand’ function in the US from 1979 to 1982?
Changing policy stance by the authorities
What is one criticism of using overly simplified econometrics in studying money demand according to the text?
It may lead to spurious regressions.
In Tobin's model of portfolio selection, what is the assumption about the return on money?
It is considered riskless
What does the speculative demand for money consider money as?
A risky asset
According to Tobin’s model, what is assumed to be riskless?
Money
What function is used to model the transaction demand for money by allowing more flexible assumptions on the expected pattern of expenditures and receipts?
Baumol model
What was one problem with Keynes’ original ideas of micro level demand for money?
Individuals held expectations of interest rate movements with certainty
What does a low value of brokerage fee (b) imply in the interest elasticity of money demand?
It increases the interest elasticity of money demand
What are the macroeconomic determinants of money demand modeled as a function of?
Interest differentials, cost of transfers, asset price uncertainty, and pattern of expenditures and receipts
What was observed about Goldfeld's equation in the 1970s?
It failed to capture the complexity of money demand
According to the text, why is there a need for studying the demand for money?
'We study the demand for something in order to be able to predict the consequences of changes in its supply'
In relation to the demand for money, what does interest differentials refer to?
The difference in interest rates between different financial assets
What are the main microeconomic determinants of money demand?
Transaction costs, brokerage fees, and liquidity preferences
What does Tobin assume about the variance of the return on money?
It is zero
What are the four main microeconomic determinants of money demand?
Interest differentials, cost of transfers, price uncertainty of assets, and expected pattern of expenditures and receipts
What did Keynes break down the demand for money into?
Transactions, precautionary, and speculative motives
What is the relationship between the cost of transfers and the demand for money?
Demand for money will be a positive function of transfer costs
What is the importance of studying the demand for money?
To understand the factors influencing individuals' and firms' holdings of money balances
What is Tobin's assumption about the return on money?
Tobin assumed that the return on money is riskless
What are the elasticities of money demand with respect to income and interest rate earned on alternative assets?
Income elasticity is positive; interest elasticity is negative
'The case of the missing money' was attributed to what factor?
Breakdown of estimated money demand equations
What does a reduced form equation represent?
A simplified representation of a complex model or system
'The transaction demand for money' is essentially needed for what purpose?
'The transaction demand for money' is essentially needed as a medium of exchange for goods and services
'Precautionary money balances' are simply holdings of money kept for what purpose?
'Precautionary money balances' are simply holdings of money kept in case of emergencies
'Speculative demand for money' considers money as what?
'Speculative demand for money' considers money as an alternative to interest-earning assets
What did Tobin assume about the variance of the return on money?
Tobin assumed that the variance of the return on money is lower than other assets
What is the main focus of the money demand function?
Evaluating the opportunity cost of holding money
What does a low value of b in the interest elasticity of money demand imply?
Monetary policy has a larger effect on output than fiscal policy
What are the two important parameters of the money demand function?
Price level and real income
What did Goldfeld's equation suggest during the 1970s?
There should be more money in circulation than there actually was
What was a possible explanation for the breakdown of money demand equations in the 1970s?
Greater financial innovation and high inflation
What does the stability of money demand function determine?
The statistical analysis of relevant data
What is included in the particular aggregate money demand function?
Nominal income and real interest rate
What does the interest elasticity of money demand determine?
Whether monetary or fiscal policy is more powerful
What does Y act as in the demand for money function?
A proxy for the level of transactions undertaken.
If money demand is homogenous of degree one in prices, what can be re-written as g(y, Ri )?
M d = g (Y, Ri , W )
What does W represent in the money demand function?
The budget constraint on which the choice of money holdings depends.
What is the main focus of Chapter 3?
To explain the quantity of money individuals and economies demand
In Tobin’s model of portfolio selection, what is assumed about the return on money?
It is riskless
What does the stability of the money demand function determine?
The stability of the macroeconomic demand for money function
What was observed about Goldfeld's equation in the 1970s?
It failed to capture the transaction and speculative demand for money
What are the four main microeconomic determinants of money demand?
Interest rate, wealth, expected inflation, income
In relation to the demand for money, what does interest differentials refer to?
The difference in interest rates between different assets
In the context of the money demand equation, what can lead to the breakdown of the estimated 'demand' function?
Changing policy stance by the authorities
What is a reduced form equation in the context of money demand equation?
A mixture of both money demand and supply equations
What needs to be addressed before any meaningful interpretation can be taken from empirical results in the context of money demand equation?
Stationarity and co-integration
According to the text, what are the main microeconomic determinants of money demand?
Interest rates, inflation, and output
What can cause the breakdown of the estimated 'demand' function in the context of money demand equation?
A changing policy stance by the authorities
What was used up until the last couple of decades in the context of money demand equation?
Overly simplified econometrics
What is the main focus of the stability of money demand?
Determining if the money demand equation is stable
What was one problem with the demand for money functions in the 1970s?
The overprediction of real money balances
What did Goldfeld's equation suggest during the 1970s?
There should be more money in circulation than there actually was
What was a possible explanation for the negative results of the 1970s?
Greater financial innovation and increased interest rates
What are the two important parameters of the money demand function?
Interest rates and real income
What does the interest elasticity of money demand determine?
The effect on output from monetary or fiscal policy
According to Goldfeld, what was notable about a conventional formulation of the money demand function?
'The conventional equation exhibits no marked instabilities'
'The case of the missing money' refers to which situation?
'The case where there should be more money in circulation than there actually was'
'Speculative demand for money' considers money as what?
A store of value, medium of exchange, and asset yielding a return
What does Tobin's model assume about the return on money?
It assumes no rate of return on holding money
What is the aim of Chapter 3?
To explain in detail the methods used to estimate money demand functions
In the Baumol model, what is the objective when managing an inventory of cash and other interest-earning assets?
To minimize brokerage fees and the interest foregone by holding money
What needs to be addressed before any meaningful interpretation can be taken from empirical results in the context of money demand equation?
Asset price uncertainty
In Tobin’s model, what does a low value of b imply in the interest elasticity of money demand?
Low interest elasticity of money demand
What is the relationship between the cost of transfers and the demand for money?
Inverse relationship
What can lead to unexpected and adverse changes in nominal and possibly real factors in the economy?
Asset price uncertainty
'Precautionary money balances' are simply holdings of money kept for what purpose?
Covering transactions and precautionary motives
'Speculative demand for money' considers money as what?
Riskless
'The transaction demand for money' is essentially needed for what purpose?
To minimize brokerage fees and interest foregone by holding money
What was observed about Goldfeld's equation in the 1970s?
It suggested a low interest elasticity of money demand
What is Tobin's assumption about the return on money?
It is riskless
According to Tobin’s model of portfolio selection, what is the assumption about the return on money?
Riskless
In relation to the demand for money, what do indifference curves represent in Tobin's portfolio analysis?
Risk preferences
What is the main criticism made against the inventory theoretic models?
They assume perfect knowledge of the pattern of expenditure and receipts.
In Tobin's model of portfolio selection, what is the assumption about the return on money?
Money has a zero rate of return and is considered riskless.
What issue did Keynes' original ideas of micro level demand for money face?
The assumption that individuals have perfect knowledge of interest rate movements.
What does Tobin assume about the return on bonds in his model of portfolio selection?
Bonds have a positive rate of return but are risky due to the possibility of capital gains or losses.
What is one problem with Keynes’ original ideas of micro level demand for money?
Individuals held expectations of interest rate movements with certainty.
What are the four main determinants of money demand at the individual level?
Interest differentials, cost of transfers, price uncertainty of assets, and the expected pattern of expenditures and receipts
What did Keynes break down the demand for money into?
Transactions, precautionary, and speculative motives
What is the interest elasticity of transactions demand for cash related to?
The percentage change in cash demand due to a percentage change in the interest rate
What is the relationship between the cost of transfers and the demand for money?
As cost of transfers increases, the demand for money increases
What does Tobin assume about the variance of the return on money?
It is constant over time
'Precautionary money balances' are simply holdings of money kept for what purpose?
Emergency situations
'The case of the missing money' was attributed to what factor?
Incorrect estimation techniques
'Speculative demand for money' considers money as what?
An alternative to interest earning assets
What does 'the stability of the money demand function' determine?
The reliability of empirical results in money demand equations
What is the main focus of the money demand function?
To determine the quantity of money individuals want to hold
What was a possible explanation for the negative results in the 1970s?
The breakdown of estimated money demand equations
What needs to be addressed before any meaningful interpretation can be taken from empirical results in the context of money demand equation?
The issue of equation misspecification
Test your knowledge of Tobin’s model of portfolio selection, which involves making optimal transactions between deposit accounts and bonds with different yields and transaction costs.
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