Assess and interpret
the empirical evidence on the validity
of the liquidity preference and portfolio
theories of money
The macroeconomic theories of money demand were given by both the classical economists and the Keynesian economists. The theories have been developed as a consequence to the major happenings that took place at that time and followed a clear pattern regarding the initiatives done by the major economists to curb the money demand situations in an economy.
The liquidity preference theory and the portfolio theories of demand were both given by the Keynesian economists who propounded several components and variables to look on to the demand side of money.
Liquidity preference theory included three motives namely transaction motive, precautionary motive, and speculative motive. The theory stated that the people in an economy demand money for these three motives only where they can fulfil the daily transactions under the transaction motive, they can keep money for meeting the unforeseen and contingent activities and also they can invest money in the shares and bond market and indulge in speculation.
The portfolio theory of demand for money shows that the demand for the real money balances or the money demand in the economy can be adjusted for income positively and is a negative point towards the nominal interest rates. Under the portfolio theory of money demand, there are other factors that affect the demand for money which are wealth, risk, and liquidity of other assets as well.
The empirical evidence can be based on the precautionary demand for money that includes the adjustments with the interest rates. As the interest rates rise, the precautionary balances will also rise. On the other hand, the precautionary demand for money is negatively related to the interest rates.
Step by step
Solved in 3 steps
