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LOS g: Explain the factors that influence the demand for money and describe the demand for money curve, including the effects of changes in real GDP and financial innovation.

Which of the following statements regarding money demand and supply is least accurate?

A)	The supply curve for money is vertical.

B)	The supply of money is determined by the monetary authority and is not affected by changes in interest rates.

C)	As the Fed reduces the money supply, short-term interest rates decrease.

As the Fed reduces the money supply, short-term interest rates increase. The other statements concerning the demand and supply for money are true.

Which of the following statements about the demand for and supply of money is least accurate?

A)	As the interest rate rises, the supply of money also rises.

B)	As gross domestic product rises, the demand for money balances also rises.

C)	As inflation rises, the demand for money by households and businesses also rises.

The supply of money is determined by the monetary authorities and is not affected by changes in interest rates. Thus, the supply of money curve is vertical.

If the money interest rate is measured on the y-axis and the quantity of money is measured on the x-axis, the money supply curve is:

A)	downward sloping to the lower right.

vertical.

C)	upward sloping to the upper right.

The money supply schedule is vertical because it is not affected by changes in the interest rate but is determined by the monetary authorities such as the Federal Reserve System (Fed) in the United States.

The monetary authorities determine the quantity of money available to the economy. Inflation and interest rates affect the demand for money balances.

Which of the following statements about the demand and supply of money is most accurate? People who are:

A)	holding money when interest rates are lower will try to increase their money balances and, as a result, the supply of money increases.

B)	buying bonds to reduce their money balances will increase the demand for bonds with an associated increase in interest rates.

C)	holding money when interest rates are higher will try to reduce their money balances and, as a result, the demand for money decreases.

Buying bonds would drive bond prices up and interest rates down. Selling bonds would have the opposite effect; driving bond prices down and interest rates up. When interest rates are lower, there is an excess demand for money. The supply of money is determined by the monetary authorities.

Which of the following statements about the relationship between interest rates and the demand for and supply of money is most accurate? Interest rates affect:

A)	the supply of money only.

B)	both the demand for and supply of money.

C)	the demand for money only.

Interest rates only affect the demand for money. With higher interest rates, the opportunity cost of holding money increases, and people hold less money and more interest-earning assets. Monetary authorities determine the supply of money. Therefore, the supply of money is independent of the interest rate.

In a recent economic forum meeting, Jason Federmeyer of the Bank of Detroit, and Lawrence Lobovsky of the Bank of Tulsa, were discussing the demand for money and how it has changed over the years. Federmeyer made the following two statements to Lobovsky:

Statement 1: Financial innovation has significantly affected the demand for money. The increased use of credit cards and debit cards, interest-bearing checking accounts, internet banking and even the large number of ATMs around the world have all helped to increase the demand for money above what it would have been if only the increase in real GDP were at work.

Statement 2: Although the quantity of money demanded is largely determined by interest rates, the supply of money is determined by the central bank and is independent of interest rates.

Overall, financial innovation has reduced the demand for money below what it would have been if only the increase in real GDP was at work. The demand for money is determined, for the most part, by interest rates. However, the quantity of money supplied is determined by the central bank and is independent of the interest rate.

The demand for money curve represents the relationship between the quantity of money demanded and:

A)	the quantity of money supplied.

B)	short-term interest rates.

C)	the price level.

The demand for money curve represents the relationship between short-term interest rates and the quantity of real money that households and firms demand to hold.