Factors That Affect the Demand for Money - Term Paper Example

Factors that Affect the Demand for Money Money is needed to do almost everything in today’s world. This includes the purchase of services and goods. The essay that you are reading is about the demand for money and how it varies with various factors at hand. The reference or example that is used is the statistics on America’s citizens, how much they hold on the money. Other statistical information such as regression are utilized in the essay. The regression has been run using the data of new domestic cars. The unit time is one month and the values per unit time are the amount of money the American’s chose to hold on to after, every month. The price variable is the price for domestic cars. Federal Funds Rate is initialized as FFR. It refers to how much an individual citizen of America is giving away just by holding on to one dollar. It is also known as the return’s proxy. Factors Affecting the Demand for Money. Money is the defining factor in any economy therefore it is critical to regulate how much one has and how much one intends to spend. For the organs that deal with the amount of money that flow in a country’s economy, it is very crucial that the levels are checked regularly. This will help cub issues like money laundering and exaggerated loan rates. Money laundering is a very common thing in today’s world. The demand for money also depends on various other factors this includes; Liquidity, Risks and returns. Liquidity. Liquidity is referred to as the extent in which assets or securities can be purchased or sold in the marketplace without affecting the product’s price. Liquidity as we know it is characterized by relatively high levels of activities in trading. Those assets that are easily bought and sold are considered to be liquid assets. In whatever investment one engages in, there is a measurable amount of liquidity. It is not just because of the amount of the sellers or buyers present but mainly because of the product’s demand. They are not the same, but they are similar. Just to illustrate the point, there might be a very high demand for a product but the same product’s liquidity is low. However, another confusing term that is easily confused with liquidity is marketability. Marketability according to scholars is an assets ability to be converted to cash. Unlike many economic terms that are associated with it, liquidity does not have a formula that can be used so that one can find its valu1e. Despite this, some people use a technique that gives off a relatively good answer. It is calculating using liquidity ratios. It is considered safer, even within the learned circles to invest in liquid assets as compared to the illiquid assets. This is because from an investors point of view, it is easier for one to get back his or her cash of the project one has invested in. When it is difficult for someone who has invested his money in something to get back his money, such individuals end up losing suitable business opportunities that may come by. Of all investments, the most liquid investments is cash. It is because of this that assets much like cash tend to have equally high liquidity too. It is because those who provide this account will let one withdraw and cash assets with a lot of impunities involved. There tends to be a high demand for metals as a trading commodity. This is evident in sheet 1 since as people are investing more, they tend to have more liquid money. It is confirmed by the proportionality in which the cost of holding on to a dollar increases with an increase in the amount of liquid money per individual. The most important component of liquidity is the speed at which an individual possessing or wants to own an investment is able to do so. This is not the physical speed that is measured in milliseconds but the time that has elapsed from when one intends to buy a product or sell a product, to when a suitable seller or buyer is found. What makes the situation worse is that illiquid trade stocks normally have poor agreement on a reasonable and fair price, hence any trade that is made will have the capability of altering the stock price dramatically. Liquidity then implies that as an investment gets to be more liquid the more likely one can; Sell or purchase it at the current price which tends to be fair. Sell it since the buyers are always available. Buy it. This is because the buyers are always available. Sell or buy in whatever quantities that one wishes. It is because the sellers are always available in large numbers, and so are the buyers. If one is a regular investor, it is paramount for one to keep his or her assets in liquid form which can be in cash form. It should be done this way so that one can act on available opportunity. It is very disappointing to pass a very sound investment opportunity so because of lack of liquidity in your investment. What is more frustrating is undergoing a loss so that one get him or herself out of an investment situation. Real income. This is an individual’s or group’s income after inflation, and purchasing power are taken into consideration. For one to be clearer on the matter, it is the amount of goods or services one can purchase today compared to the products and services that one could purchase on another day or time. Hence, if it cost an individual $600 more in order to by fuel today as compared to last year and, the individuals annual did not change then, the individual’s annual income has literally decreased by $600. Hence, it can be said that as the real income increases people tend to stay with more money in their hands since they have more freedom to do so. However, when the real income decreases the amount of money that people choose to have in liquid form decreases. This is because the people are given a very little chance to stay with money in their hands. Price level. It is the general cost of goods and services that are produced in a given specific economy. To be more general, it refers to the static pictures of the prices of services, products and tradable security. The price levels can be indicated in minute ranges similar to those of security prices or presented in discrete value. To many people around the world, price levels are the most observed economic signs. It is commonly believed it should stay very stable from one period to another. This will reduce the chances of inflation. If the prices of goods and services start to rise very rapidly, governments will try to reduce the money supply. Another solution that the central government may try is to decrease the demand for services and goods. As the price levels increase, the people have a larger quantity of liquid capital in their hands so since they will have to use more money in order to do the same amount and level of transaction. This is mainly because the price of a particular product of service costs more so more money is to be spent. Interest rates. It is the amount of charge that is expressed as a percentage of the principal to a borrower by a lender of money or assets. Interest rates are normally on annual basis commonly referred to as annual percentage rate. What is borrowed can include cash, assets, vehicles or even buildings. Interest is primarily rental charge to the borrower for the use of the property. In large properties like buildings or vehicles, it is commonly referred to as lease rate. If the borrower is a high-risk party, the interest rate has higher chances of being high if it is a relatively lower risk part, then the interest tends to be lower. Interests are charged to the borrower to compensate for the lack of asset use on his or her part. For the scenario of lending funds, the owner of the money had missed investing the money somewhere else, hence they have to be compensated for “loss of use of assets”. For the case of lending big assets, the lender might have been able to make use of the expensive asset to generate a lot of money but has not been able to do so hence, he or she has to be compensated for that. Consumer Spending. Consumer spending is the relative amount that consumers spend. With an increase in consumer spending, there is an increase in demand for money. This is because people change their assets into more liquid states so that they can purchase some goods or services. A notable example is that of during Christmas holiday (Analyse the Main Factors that Influence the Demand for Money, 2015). During this holiday, people buy lots of goods and services. Some of this is mainly meant for the family and friends and also to replenish stocks. To replenish stock is primarily done at this time since it is almost at the end of the year. Before one purchases lots of goods and services that are far beyond their average expenditure, they will certainly have to secure a relative large amount of cash. It may force some people to sell their less liquid assets such as stocks to acquire more liquid assets such as cash. This in return is going to lead to higher demand for money. Lierature Review Riley (2015), argues that when the interest rates are low, people tend to hold more money. This is because when the interest rates are at historic low, people expected that the interest rates are going to go high. When the interest rates go high the cost of goods and services, go low and so does the stock prices (Riley, 2015). The demand for money (2015) that when the stock prices go low, people tend to lose what they have invested in, and no one wants such frustration. Hence, people hold more money to themselves to protect themselves from losses (The demand for money, 2015). Chartrand (2015) argues that, holding on to their money will come in handy later. This is because of the liquid nature of cash which will allow them to buy more stocks and hence readily invest. It is so since at low share prices and high-interest rates the liquidity of assets and investments tends to be very low. Thus, one is likely to lose a suitable job opportunity because of lack of liquid cash. If one manages to invest, he or she will have to go a loss to get out of a bad situation and invest the assets somewhere else (Chartrand, 2015). Spaulding (2015) states that price levels give a picture of the price of goods at a particular time hence making it possible for changes to be made on a broad level. As the prices of goods and services increase which is called inflation or decrease which is called deflation, the demand for goods and services by consumers is also altered which in return has a broader impact on the gross domestic product making it to either increase or decrease (Spaulding, 2015). Precaution. There are times when one cannot be able to purchase goods. When there is an opportunity to buy goods in the near future, people will tend to convert their assets into cash (Mises, 2009). This is so that they could purchase some assets or even invest in something. This is normally done as a precaution (Mophatt, 2015). References Analyse the Main Factors that Influence the Demand for Money. (2015, 5 14). Retrieved from exampleessays.com: http://www.exampleessays.com/viewpaper/22629.html Chartrand, H. H. (2015, 5 14). Demand for money. Retrieved from compilerpress.ca: http://www.compilerpress.ca/ElementalEconomics/mac_4_2b.htm Mises, L. v. (2009, 8 6). Demand for Money and Supply of Money. Retrieved from mises.org: https://mises.org/library/demand-money-and-supply-money Mophatt, M. (2015, 5 14). More Factors Which Influence the Demand for Money. Retrieved from economics.about.com: http://economics.about.com/cs/money/a/money_demand_2.htm Riley, G. (2015, 5 14). Monetary policy- Managing Demand. Retrieved from tutor2u.net: http://beta.tutor2u.net/economics/reference/monetary-policy-managing-demand Spaulding, W. C. (2015, 5 14). Banking. Retrieved from Money matters: http://thismatter.com/money/banking/money-demand-money-velocity.htm The demand for money. (2015, 5 14). Retrieved from cliffnotes.com: http://www.cliffsnotes.com/more-subjects/economics/money-and-banking/the-demand-for-money Read More