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Money and credit - Ivanov V.M.

7.3. Money supply and demand

The key functions of the money market are balancing the supply and demand of money and the formation of a market level of interest as the price of money. In this regard, understanding the mechanisms of the formation of demand and supply of money and the level of interest is of particular importance.

Demand for money is an economic aggregate equal to the real volume of national production that consumers are ready to buy at any possible price level.

Today, economists identify only factors that motivate people to possess money:

• perfect liquidity of money;

• the performance by money of a number of critical functions, in particular the function of a means of payment;

• the existence of monetary indicators on which the entire accounting system and all market information are based;

• use of money as a means of saving.

Based on the above, we can talk about the demand for a stock of money at a certain financial point in time.

There are some differences in determining the content of the factors determining the parameters of demand for money by representatives of the quantitative theory of money, Keynesian economists, and modern money theory.

In fact, the quantitative theory of money is a theory of demand for money, in which the main attention is paid to determining the factors of their accumulation. The most fundamental value in the structure of this analysis is the justification of the direct relationship between the amount of money M necessary for the circulation of money and the velocity of their circulation V, on the one hand, and the absolute price level P and the real volume of production Q, on the other. This dependence is fixed in the Fisher formula, the equation of exchange, widely known in the economic literature

Transforming the equation, we get a formula that shows that the amount of money needed to provide goods and services is directly proportional to PQ - the nominal volume of production (nominal income) and inversely proportional to V - the velocity of the currency:

Thus, the demand for money depends on the following factors:

• changes in the velocity of money (the greater the speed, the less money is needed);

• real production volume (the higher the speed, the more money is required);

• a rising price level (the higher the price level, the more money is needed).

The economists of this school believed that speed V is constant and is determined by the number of wage payments.

Keynesian model. For Keynes, the key to the issue of demand for money was the concept of the rate of interest. He considered money as a form of wealth. He associated the availability of money on hand with the property of their liquidity, but introduced three motives for storing money:

• the desire to keep part of the assets in the form of money for use as a means of payment;

• a desire to provide an opportunity in the future to dispose of part of the assets in the form of cash;

• the risk of holding assets in a different form.

The modern theory of money in its reasoning is based on a wide range of money aggregates M1 and M2: M1 - checks; M2 - checks + demand deposits. In this regard, it is necessary to consider such factors:

• affecting the desire to possess a certain asset in relation to money;

• wealth as one of the determining factors in the demand for money (the richer the person, the higher his demand for money);

• the impact of economic forecasts (with a pessimistic forecast on the future market situation, the demand for money tends to increase, and vice versa, with an optimistic forecast people will prefer other types of assets and the demand for money will fall);

• inflation;

• a modern theory that rejects the demand for money for three motives of J. Keynes.

The demand curve for money is shown in Fig. 7.

Money supply - the desire of economic entities to borrow a certain part of their assets in order to generate income. The supply of money (Fig. 8) resists the demand for money in the market. At the level of an individual economic entity, the money supply depends on the change in the profitability of placing them in financial assets, primarily on the change in the interest rate: the higher it is, the more money will be offered on credit, and vice versa.

Money demand curve

At the macroeconomic level, the money supply has its natural boundary the total mass of money in circulation (for the M1 aggregate) and cannot exceed it, no matter how the profitability of financial assets changes. Therefore, the supply of money in certain conditions can be considered a constant factor, independent of the dynamics of the interest rate. With an increase or decrease in the mass of money in circulation, the MS curve will shift to the right or left, remaining upright, which confirms the independence of the total mass of money supply from the interest rate.