Supply and Demand For Money 1

THE SUPPLY
& DEMAND
FOR MONEY
JOENEL M. REAMICO,LPT
INSTRUCTOR
MONEY
facilitates the flow of resources in the circular
model of macroeconomy. Not enough money will
slow down the economy, and too much money
can cause inflation because of higher price
levels. Either way, monitoring the supply and
demand for money is vital for the economy's
central bank's monetary policy, which aims to
stabilize price levels and to support economic
growth
final goods market
goods and services
consumption
expenditures
(income)
land, labor, capital,
household
entrepreneurship
skills
business
sector
circular flow wage, rent. interest, profit
of transaction
(simple economy model) factor market
MONEY
growth
MONEY
growth
SUPPLY OF MONEY & DEMAND OF MONEY
The supply of money refers
The demand for money
to the total amount of
refers to the desire of
monetary assets available in
individuals, businesses, and
an economy at a given point
institutions to hold money
in time. It includes physical
balances for various
currency (coins and
purposes, including
banknotes) as well as
transactions, precautionary
various types of deposits
needs, and speculative
held in banks and other
motives.
financial institutions.
SUPPLY OF MONEY & DEMAND OF MONEY
The supply of money refers
The demand for money
to the total amount of
refers to the desire of
monetary assets available in
individuals, businesses, and
an economy at a given point
institutions to hold money
in time. It includes physical
balances for various
currency (coins and
purposes, including
banknotes) as well as
transactions, precautionary
various types of deposits
needs, and speculative
held in banks and other
motives.
financial institutions.
THE MONEY SUPPLY
Although the general description of money is
relatively straightforward, the precise definition
of the supply of money is complex because of the
wide variety of forms of money in modern
economies.
The Key Measures for the Money Supply are:
MI. The narrowest measure of the money supply.

It includes currency in circulation held by the
nonbank public, demand deposits, other
checkable deposits, and traveler's checks. MI
refers primarily to money used as a medium of
exchange. .
THE MONEY SUPPLY
M2. In addition to M1, this measure
includes money held in savings deposits,
money market deposit accounts,
noninstitutional money market mutual
funds and other short-term money
market assets (e.g., "overnight"
Eurodollars). M2 refers primarily to
money used as a store of value.
THE MONEY SUPPLY
M3. In addition to M2, this measure
includes the financial institutions,
(e.g., large-denomination time
deposits and term Eurodollars). M3
refers primarily to money used as a
unit of account.
The Bangko Sentral ng Pilipinas (BSP) is responsible for
determining the supply of money. It uses daily open market
operations to influence the creation of money by banks and
to guide the availability of money in the economy. BSP also
has an impact on the creation of money by banks through
reserve requirements and the discount rate that is, the
interest rate at which banks can borrow from the BSP as a
lender of last resort. Changes in the supply of money will
affect the interest rate and therefore the cost of borrowing
money. This will have an impact on consumption and
investment levels in the economy.
THE DEMAND FOR MONEY
The Sources of the Demand for Money
are: .
Transaction demand. Money

demanded for day-to-day payments
through balances held by households
and firms (instead of stocks, bonds or
other assets). This kind of demand
varies with GDP; it does not depend on
the rate of interest.
Precautionary demand.
Money demanded as a result
of unanticipated payments.
This kind of demand varies
with GDP.
• Speculative demand. Money
demanded because of
expectations about interest
rates in the future. This
means that people will
decide to expand their
money balances and hold off
on bond purchases if they
expect
RATE OF INTEREST
The rate of interest is the price
paid in the money market for the
use of money (or loans). The rate is
a percentage of the amount
borrowed.
If a person holds P1,000 in
currency, the opportunity
cost of holding the money is
the interest that could he
earned on the P1,000 in an
interest-bearing account.
The opportunity cost of holding money goes up if
the interest rate increases, which may lead to
decreased consumption and increased saving.
Conversely, if the interest rate is low, it is
relatively cheap to borrow money and the
quantity of money demanded goes up.
Therefore, the demand for currency has a
negative relationship with the interest rate.
THE IMPACT OF
MONEY
In the macroeconomic short-run, some
prices (e.g., wage rates affected by labor
contracts) will be inflexible. This causes
economic fluctuations, with real GDP
either below potential GDP (recessionary
gap) or above potential GDP (inflationary
gap).
THE QUANTITY THEORY
OF MONEY
The quantity theory of money holds that changes in
the money supply directly influences the economy's
price level, but nothing else. This theory follows
from the equation of exchange:
MxV=PxY
where M= quantity of money

V = velocity of money (i.e., the average number of
times a unit of money is used during a year to
purchase GDP's goods and services)
P= price level
Y= real GDP
Suppose we have the following data for an
economy:
Money supply (M): $1,000

Velocity of money (V): 2
Price level (P): $50 per unit of output
Real GDP (Y): 100 units of output
TIME VALUE
OF MONEY
In general business terms, interest is
defined as the cost of using money over
time. This definition is in close agreement
with the definition used by economists,
who prefer to say that interest represents
the time value of money.
PRESENT VALUE
The concept of present value (or present
discounted value) is based on the
commonsense notion that a peso of cash
flow paid to you one year from now is less
valuable to you than a peso paid to you
today
SIMPLE LOAN
In this loan, the lender
provides the borrower with an
amount of funds (called the
principal) that must be repaid
to the lender at the maturity
date, along with an additional
payment for the interest.
For example, if you made your friend Jane a simple loan
of P100 for one year, you would require her to repay the
principal of P100 in one year's time along with an
additional payment for interest; say, P10. In the case of a
simple loan like this one, the interest payment divided by
the amount of the loan is a natural and sensible way to
measure the interest rate. This measure of the so-called
simple interest rate, i, is:
i= P10/P100 = 0.10 = 10%

THANK
YOU!

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THE SUPPLY

land, labor, capital,

circular flow wage, rent. interest, profit

The Key Measures for the Money Supply are:

MI. The narrowest measure of the money supply.

Transaction demand. Money

where M= quantity of money

Money supply (M): $1,000

i= P10/P100 = 0.10 = 10%

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