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Equilibrium In Money Market Case Study

788 Words4 Pages

Name: Nguyen Pham Hai Chi
Subject: Financial Market
Professor: Giuseppe Travaglini

Week 1

Equilibrium in money market
A nation’s money supply (Ms) is the amount of currency available for use and the aggregation of all checkable accounts in banks. Control of the money supply is given to the Government, Central Bank to be specific, because limiting the supply of money is necessary for the money to be worth. One of the important tools that Central Bank uses to influence the money in circulation is through “Open Market Operations”, in which the sales or purchases of Government Treasury Bonds will be taken.
Money demand (Md) is the demand for highly liquid assets such as currency or checkable deposits of individuals, households and organizations …show more content…

There are three different cases with different assumptions to depict the determination of interest rate.
Case 1 Case 2 Case 3
Simplify reality with two financial assets: Money (currency, checkable deposits) and bonds
Assumption: People only hold currency Assumption: People do not hold currency but checkable deposits Assumption: People hold both currency and checkable deposits
- Ms , which is supplied by Central Bank does not depend on Interest rate
- Md does depend on interest rate. Md = $Y x -L(i)
- The interest rate is determined by the equality of demand for money and supply of money
- Nominal income increases => level of transactions increases => greater Md at any interest rate => demand curve shifts to the right => Interest increases. In contrast, nominal income decreases => demand curve shifts to the left => Interest decreases.
- Government exercises expansionary market operation => buys bonds
=> Ms increases => Ms curve shifts to the right => interest decreases. In contrast, contractionary OMO happens when Government sells bonds => interest increases - Md is just the reserves by banks, in which reserves depends on the amount of checkable

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