SlideShare a Scribd company logo
Keynes liquidity preference theory of interest rates and income determination
CERTIFICATE
This is to certify, that the Assignment submitted by me is an
outcome of my independent and original work. I have duly
acknowledged all the sources from which the ideas and extracts have
been taken. I have made this Assignment under the guidelines of my
Professor. The project is free from any plagiarism.
Kratika Soni
ACKNOWLEDGEMENT
I would like to acknowledge that the Assignment created by me is
completed Under there supervision of my teacher with complete
determination and Authenticity.
I would also wish to express my gratitude to Professor Dr. Harinarayan
Vishwakarma for extended discussions and valuable suggestions which
have contributed greatly to the improvement of this project work.
Now I would like to extend my gratitude for the pretentious institution
Dr. Hari Singh Gour University who has given me an opportunity to learn
Interactively through this program of Bachelor of Arts.
Specially I would pay regards to all my dear friends who helped me
to understand the concept in depth, without them this workpiece
could not complete. Their suggestions and comments helped me to
finish my work under deadline.
I take this opportunity to thank all of those who supported me to
complete it.
April 6, 2020
Kratika Soni
Contents
• Introduction
• About Keynes
• What is interest?
• Determination of Rate of interest on money 💰
• Demand of money
o Transaction motive
o Precautionary motive
o Speculation motive
• Total demand of money
• Total supply of money
• Demand and supply equilibrium for determination of rate of interest
• Criticism of Keynes Theory of interest
• Conclusion
• Bibliographie
INTRODUCTION
Eminent economist of 20th century Lord Keynes has propounded a
Monetary Theory of interest in his famous book THE GRNERAL THEORY
OF EMPLOYMENT, INTEREST AND MONEY.
There were two more theories of determining rate of interest were
Propounded which were Classical Theory by J. S. Mill, Prof. Marshall,
Walres and Pigou. And Neo-liberal Theory by Robertson and B. Ohlin.
But among all such theories Keynes theory is most reliable and
trustworthy.
Keynes Theory of interest, also known as Liquidity Preference Theory of
Interest.
The determinants of the equilibrium interest rate in the classical model are
the ‘REAL’ factors of the supply of saving and the demand for investment.
On the other hand, in the Keynesian analysis, determinants of the interest
rate are the ‘MONETARY’ factors alone.
Keynes’ analysis concentrates on the demand for and supply of money
as the determinants of interest rate. According to Keynes, the rate of
interest is purely “A MONETARY PHENOMENON.” Interest is the price
paid for borrowed funds. People like to keep cash with them rather than
investing cash in assets. Thus, there is a preference for liquid cash.
JOHN MAYNARD KEYNES
About the economist
John Maynard Keynes was born on 5 June 1883, was a British economist,
whose ideas or school of thought known as Keynesian economics.
During the Great Depression of the 1930s, Keynes advocated the use
of fiscal and monetary policies to mitigate the adverse effects of
economic recessions and depressions. He detailed these ideas in his
magnum opus, The General Theory of Employment, Interest and Money,
published in 1936.
The Liquidity Preference theory is also one of his great set of ideas.
WHAT IS INETREST?
Meaning- The money that you pay for borrowing money from a bank,
etc. or the money that you earn when you keep money in a bank, etc.
According to keynes “ Interest is the reward for parting with liquidity for
specific period.”
Interest is of two types- Gross Interest and Net interest. It can be easily
understand by the
Equation below-
Gross Interest = Net Interest + Reward of risk + Reward of management+
Reward of inconvenience
Rate of interest
Meaning- the proportion of a loan that is charged as interest to the
borrower, typically expressed as an annual percentage of the loan
outstanding.
According to Keynes “ The rate of interest is the premium which is to be
offered to induce the people to hold wealth in same form then the
hoorded money.”
As far we can understand the meaning of liquidity by his defination
It means cash or preference of cash.
DETERMINATION OF INTEREST ON MONEY
The two factors on with the rate of interest depends are the
demand of money and the supply of money.
The rate of interest in the Keynesian theory is determined by the
demand for money and supply of money and create a equilibrium
condition.
DEMAND FOR MONEY
DEMAND FOR MONEY IS NOT TO BE CONFUSED WITH THE DEMAND FOR A
COMMODITY THAT PEOPLE ‘CONSUME’. BUT SINCE MONEY IS NOT
CONSUMED, THE DEMAND FOR MONEY IS A DEMAND TO HOLD AN ASSET.
THE DESIRE FOR LIQUIDITY OR DEMAND FOR MONEY ARISES BECAUSE OF
THREE MOTIVES:
(A) TRANSACTION MOTIVE
(B) PRECAUTIONARY MOTIVE
(C) SPECULATIVE MOTIVE
TRANSACTION DEMAND FOR MONEY:
Money which is needed for day to day transaction.
Transaction demand for money or need- based money—which directly
depends on the level of income of an individual and businesses.
People with higher incomes keep more liquid money at hand to meet their
need-based transactions. In other words, transaction demand for money is an
increasing function of money income.
Tdm = f (Y)
Where,
Tdm stands for transaction demand for money and
Y stands for money income.
Relationship between transaction demand and rate of interest can be
represented as –
By the graph shown above it can be seen that the rate of interest is
independent to demand for transportation because income comes just once
in a month but money needed for transaction required whole month and for
transportation the person won’t get any interest on it.
PRECAUTIONARY DEMAND FOR MONEY:
Money needed for emergency purposes.
Future is uncertain. That is why people hold cash balances to meet
unforeseen contingencies, like sickness, death, accidents, danger of
unemployment, etc. It also depends on the level of money income of an
individual but irrespective to rate of interest.
This kind of demand for money is also an increasing function of money
income. The relationship between precautionary demand for money
(Pdm) and the volume of income is normally a direct one.
Pdm = f (Y)
Relationship between the precautionary motive and rate of
interest is also independent to each other because the money
saved for precautionary purposes do not give any interest to
man.
Therefore the graph will be similar as transaction demand.
The combined demand for money for both will be equal to
Mdm = Tdm + Pdm. …(1)
SPECULATIVE DEMAND FOR MONEY:
Money left after completion of demand for transaction and
precautionary motive and used for investment on risk.
This sort of demand for money is really Keynes’ contribution. The speculative motive
refers to the desire to hold one’s assets in liquid form to take advantages of market
movements regarding the uncertainty and expectation of future changes in the rate of
interest.
The cash held under this motive is used to make speculative gains by dealing in bonds
and securities whose prices and rate of interest fluctuate inversely.
Speculative demand for money (Sdm) varies inversely with the rate of interest. Thus,
Sdm = f (r)
Where, Y is the rate of interest.
And f(r) = a∝1/b
Relationship between Speculative demand and rate of interest can be
represented as-
2
The the curve shown above on x-axis it shows speculative demand of
money and on y axis it shows rate of Interest. that means it interest rate
are higher as are on liquidity of cash in hand is the least but when rate of
interest is very low as are not people don’t prefer to invest instead they
prefer to hold money as cash this is known as liquidity trap
When rate of interest is 15 the Liquidity is 0, it means the preference on
hold money will be least and when rate of interest is 3, Liquidity remains
constant.
Total demand for money
The total demand for money (DM) is the sum of all three types of demand for money.
That is, Dm = Tdm + Pdm + Sdm. The demand for money has a negative slope because of the
inverse relationship between the speculative demand for money and the rate of
interest.
However, the negative sloping liquidity preference curve becomes perfectly elastic at a
low rate of interest. According to Keynes, there is a floor interest rate below which the
rate of interest cannot fall. This minimum rate of interest indicates absolute liquidity
preference of the people.
3
The graphical representation of Total demand for money will be -
The total liquidity preference is equal total demand for money M1 + M2.
The curve LP which shows the total demand for money is a horizontal
summation of quantity of money demanded M1, and M2, with the same
rate of interest measured on the Y-axis. Thus, in the amount of money
balance held OQ is the same OA and has no relation to interest rate. But
the amount OR shows OA, +OB, Similarly, OS = OA+OC and OT = OA+OD.
Thus, the liquidity preference high interest rate and increase with a fall in
4
the rate of interest. In other words, demand for money and rate of
interest are negatively related.
Total Supply of money
The quantity of Money supply can be determined by monetary authority
who has taken this conduct.
These authorities are usually the government agencies like in India , RBI
take control of supply of money and determine the flow of cash or
liquidity in economy.
The Supply of money is neither the function of income not rate of interest
as the authority do not get any interest in minting currency
Therefore,
Relation between supply of money and rate of interest are independent to
each other.
the supply of money is represented by a vertical line at the quantity of
money that the Fed decides to put out into the public realm. When the Fed
5
increases the money supply this line shifts to the right. Similarly, when the
Fed decreases the money supply, this line shifts to the left.
DEMAND AND SUPPLY EQUILIBRIUM
For determination of rate of interest as per the theory suggested by
Keynes
The graphical representation of equilibrium shown below-
OM is the total amount of money supplied by the central bank. At point E, demand for
money becomes equal to the supply of money. Thus, the equilibrium interest rate is
determined.
6
In such a situation, supply of money will exceed the demand for money. People will
purchase more securities. Consequently, its price will rise and interest rate will fall until
demand for money becomes equal to the supply of money.
On the other hand, if the rate of interest becomes less than or, demand for money will
exceed supply of money, people will sell their securities.
CRITICISM
EVEN KEYNES’ LIQUIDITY PREFERENCE THEORY IS NOT FREE FROM CRITICISMS:
• Firstly, like the classical and neo-classical theories, Keynes’ theory is an
indeterminate one. Keynes charged the classical theory on the ground that it
assumed the level of employment fixed.
• Secondly, Keynes committed an error in rejecting real factors as the determinants
of interest rate determination.
• Thirdly, Keynes’ theory gives a choice between holding risky bonds and riskless
cash. An individual holds either bond or cash and never both. In the real world, it
is the uncertainty or risk that induces an individual to hold both. This gap in
7
Keynes’ theory has been filled up by James Tobin. In fact, today people make a
choice between a variety of assets.
CONCLUSION
Despite these criticisms, Keynes’ liquidity preference theory tells a lot on income, output
and employment of a country. His basic purpose was to demonstrate that a capitalist
economy can never reach full employment due to the existence of liquidity trap.
Though the liquidity trap has been overemphasized by Keynes yet he demolished the
classical conclusion the goal of full employment. Further, his theory has an important
policy implication. The RBI is incapable of reviving a capitalistic economy during
depression because of liquidity trap.
Although Keynes theory is one of the best theory ever discovered and this give scope to
Economists to know more about interest.
BIBLIOGRAPHIE
Here is the list of reference that were used to complete this assignment.
1. Principles of microeconomics by H. L. Aahuja
2. www.google.com
3. www.investopedia.in
4. Heena Chadha YouTube

More Related Content

What's hot

Supply of Money
Supply of MoneySupply of Money
Supply of Money
Sandrea Butcher
 
Demand for money
Demand for moneyDemand for money
Demand for money
Dr. Mani Madhavan
 
TOBIN’S PORTFOLIO BALANCE APPROACH
TOBIN’S PORTFOLIO BALANCE APPROACHTOBIN’S PORTFOLIO BALANCE APPROACH
TOBIN’S PORTFOLIO BALANCE APPROACH
Jithin Omanakuttan
 
Liquidity preference theory
Liquidity preference theoryLiquidity preference theory
Liquidity preference theory
Kirtana Dasa
 
Theory of consumption
Theory of consumptionTheory of consumption
Theory of consumption
Murugan Kaliappani
 
marginal efficiency of capital
marginal efficiency of capitalmarginal efficiency of capital
marginal efficiency of capital
Manohar Gupta
 
Permanent and Life Cycle Income Hypothesis
Permanent and Life Cycle Income HypothesisPermanent and Life Cycle Income Hypothesis
Permanent and Life Cycle Income Hypothesis
JosephAsafo1
 
Quantity theory of money
Quantity theory of moneyQuantity theory of money
Quantity theory of money
Nayan Vaghela
 
Demand for money
Demand for moneyDemand for money
Demand for money
Sandrea Butcher
 
Classical theory of employment
Classical theory of employmentClassical theory of employment
Classical theory of employment
Mahendra Kumar Ghadoliya
 
Permanent income hypothesis
Permanent income hypothesisPermanent income hypothesis
Permanent income hypothesis
punjab university
 
Relative income hypothesis
Relative income hypothesisRelative income hypothesis
Relative income hypothesis
punjab university
 
Quantity theory of money
Quantity theory of moneyQuantity theory of money
Quantity theory of money
Uma shankar shah Kalwar
 
Supply of money
Supply of money Supply of money
Supply of money
Dr. Sunil Chandanshive
 
The LM curve
The LM curveThe LM curve
The LM curve
Prabha Panth
 
Theory of interest
Theory of interestTheory of interest
Theory of interest
Khemraj Subedi
 
Baumol's model of demand for money
Baumol's model of demand for moneyBaumol's model of demand for money
Baumol's model of demand for money
Prabha Panth
 
Neo classical theory of interest
Neo classical theory of interestNeo classical theory of interest
Neo classical theory of interest
Ritika Katoch
 
Philips curve
Philips curvePhilips curve
Philips curve
Divya Jain
 
6. joan robinson's model
6. joan robinson's model6. joan robinson's model
6. joan robinson's model
Prabha Panth
 

What's hot (20)

Supply of Money
Supply of MoneySupply of Money
Supply of Money
 
Demand for money
Demand for moneyDemand for money
Demand for money
 
TOBIN’S PORTFOLIO BALANCE APPROACH
TOBIN’S PORTFOLIO BALANCE APPROACHTOBIN’S PORTFOLIO BALANCE APPROACH
TOBIN’S PORTFOLIO BALANCE APPROACH
 
Liquidity preference theory
Liquidity preference theoryLiquidity preference theory
Liquidity preference theory
 
Theory of consumption
Theory of consumptionTheory of consumption
Theory of consumption
 
marginal efficiency of capital
marginal efficiency of capitalmarginal efficiency of capital
marginal efficiency of capital
 
Permanent and Life Cycle Income Hypothesis
Permanent and Life Cycle Income HypothesisPermanent and Life Cycle Income Hypothesis
Permanent and Life Cycle Income Hypothesis
 
Quantity theory of money
Quantity theory of moneyQuantity theory of money
Quantity theory of money
 
Demand for money
Demand for moneyDemand for money
Demand for money
 
Classical theory of employment
Classical theory of employmentClassical theory of employment
Classical theory of employment
 
Permanent income hypothesis
Permanent income hypothesisPermanent income hypothesis
Permanent income hypothesis
 
Relative income hypothesis
Relative income hypothesisRelative income hypothesis
Relative income hypothesis
 
Quantity theory of money
Quantity theory of moneyQuantity theory of money
Quantity theory of money
 
Supply of money
Supply of money Supply of money
Supply of money
 
The LM curve
The LM curveThe LM curve
The LM curve
 
Theory of interest
Theory of interestTheory of interest
Theory of interest
 
Baumol's model of demand for money
Baumol's model of demand for moneyBaumol's model of demand for money
Baumol's model of demand for money
 
Neo classical theory of interest
Neo classical theory of interestNeo classical theory of interest
Neo classical theory of interest
 
Philips curve
Philips curvePhilips curve
Philips curve
 
6. joan robinson's model
6. joan robinson's model6. joan robinson's model
6. joan robinson's model
 

Similar to Keynes liquidity preference theory of interest rates and income determination

Finance project on Interest rate
Finance project on Interest rateFinance project on Interest rate
Finance project on Interest rate
Arun Kumar
 
Money and supply ,types of money
Money and supply ,types of moneyMoney and supply ,types of money
Money and supply ,types of money
alliance university
 
Money
MoneyMoney
The behaviour of interest rates
The behaviour of interest ratesThe behaviour of interest rates
The behaviour of interest rates
Rhazes Zy
 
Lecture 6.pptx
Lecture 6.pptxLecture 6.pptx
Lecture 6.pptx
CaalaaZawudee
 
Nature of Interest Rates.pptx
Nature of Interest Rates.pptxNature of Interest Rates.pptx
Nature of Interest Rates.pptx
Jaafar47
 
INTEREST RATE DETERMINATION(1).pptx
INTEREST RATE DETERMINATION(1).pptxINTEREST RATE DETERMINATION(1).pptx
INTEREST RATE DETERMINATION(1).pptx
Jaafar47
 
Theory of interest rate - loan theory
Theory of interest rate - loan theoryTheory of interest rate - loan theory
Theory of interest rate - loan theory
Vaibhav Bhalotia
 
1642570754-1385890268-78005.pptx
1642570754-1385890268-78005.pptx1642570754-1385890268-78005.pptx
1642570754-1385890268-78005.pptx
TRUPTISAVLA1
 
MACROECONOMICS-CH4
MACROECONOMICS-CH4MACROECONOMICS-CH4
MACROECONOMICS-CH4
kkjjkevin03
 
Money Market: Demand for Money
Money Market: Demand for MoneyMoney Market: Demand for Money
Money Market: Demand for Money
Shilpi Maheshwari
 
FIM Financial pp ch3.pptx
FIM Financial pp ch3.pptxFIM Financial pp ch3.pptx
FIM Financial pp ch3.pptx
EbsaAbdi
 
Demand of Money.docx
Demand of Money.docxDemand of Money.docx
Demand of Money.docx
ednadeauna1
 
Demand of Money.docx
Demand of Money.docxDemand of Money.docx
Demand of Money.docx
ednadeauna1
 
The money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec domsThe money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec doms
Babasab Patil
 
The money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec domsThe money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec doms
Babasab Patil
 
Interest Rate Theory
Interest Rate TheoryInterest Rate Theory
Interest Rate Theory
Maksudul Huq Chowdhury
 
Money and banking
Money and bankingMoney and banking
Money and banking
Rashain Perera
 
Nani quantitative theory of money
Nani quantitative theory of moneyNani quantitative theory of money
Nani quantitative theory of money
Vikram g b
 
AIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptx
AIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptxAIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptx
AIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptx
Zawarali786
 

Similar to Keynes liquidity preference theory of interest rates and income determination (20)

Finance project on Interest rate
Finance project on Interest rateFinance project on Interest rate
Finance project on Interest rate
 
Money and supply ,types of money
Money and supply ,types of moneyMoney and supply ,types of money
Money and supply ,types of money
 
Money
MoneyMoney
Money
 
The behaviour of interest rates
The behaviour of interest ratesThe behaviour of interest rates
The behaviour of interest rates
 
Lecture 6.pptx
Lecture 6.pptxLecture 6.pptx
Lecture 6.pptx
 
Nature of Interest Rates.pptx
Nature of Interest Rates.pptxNature of Interest Rates.pptx
Nature of Interest Rates.pptx
 
INTEREST RATE DETERMINATION(1).pptx
INTEREST RATE DETERMINATION(1).pptxINTEREST RATE DETERMINATION(1).pptx
INTEREST RATE DETERMINATION(1).pptx
 
Theory of interest rate - loan theory
Theory of interest rate - loan theoryTheory of interest rate - loan theory
Theory of interest rate - loan theory
 
1642570754-1385890268-78005.pptx
1642570754-1385890268-78005.pptx1642570754-1385890268-78005.pptx
1642570754-1385890268-78005.pptx
 
MACROECONOMICS-CH4
MACROECONOMICS-CH4MACROECONOMICS-CH4
MACROECONOMICS-CH4
 
Money Market: Demand for Money
Money Market: Demand for MoneyMoney Market: Demand for Money
Money Market: Demand for Money
 
FIM Financial pp ch3.pptx
FIM Financial pp ch3.pptxFIM Financial pp ch3.pptx
FIM Financial pp ch3.pptx
 
Demand of Money.docx
Demand of Money.docxDemand of Money.docx
Demand of Money.docx
 
Demand of Money.docx
Demand of Money.docxDemand of Money.docx
Demand of Money.docx
 
The money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec domsThe money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec doms
 
The money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec domsThe money supply and inflation ppt @ bec doms
The money supply and inflation ppt @ bec doms
 
Interest Rate Theory
Interest Rate TheoryInterest Rate Theory
Interest Rate Theory
 
Money and banking
Money and bankingMoney and banking
Money and banking
 
Nani quantitative theory of money
Nani quantitative theory of moneyNani quantitative theory of money
Nani quantitative theory of money
 
AIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptx
AIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptxAIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptx
AIOU Code 811 Monetary Theory and Policy Solved Notes Slides In English.pptx
 

Recently uploaded

05 BBA 20 23 Sem IV POM Forecasting Methods.pptx
05 BBA 20 23 Sem IV  POM Forecasting Methods.pptx05 BBA 20 23 Sem IV  POM Forecasting Methods.pptx
05 BBA 20 23 Sem IV POM Forecasting Methods.pptx
drsouravpanda27
 
Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...
Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...
Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...
eshikajshani
 
Economic Risk Factor Update: July 2024 [SlideShare]
Economic Risk Factor Update: July 2024 [SlideShare]Economic Risk Factor Update: July 2024 [SlideShare]
Economic Risk Factor Update: July 2024 [SlideShare]
Commonwealth
 
What is the Secret way of selling hamster kombat tokens online?
What is the Secret way of selling hamster kombat tokens online?What is the Secret way of selling hamster kombat tokens online?
What is the Secret way of selling hamster kombat tokens online?
CRYPTO SPACE 🪙
 
‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf
‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf
‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf
John Leonardo
 
Northeastern University degree offer diploma Transcript
Northeastern University degree offer diploma TranscriptNortheastern University degree offer diploma Transcript
Northeastern University degree offer diploma Transcript
oywfdy
 
Scam 1992 Harshad mehta scam pdf download
Scam 1992 Harshad mehta scam pdf downloadScam 1992 Harshad mehta scam pdf download
Scam 1992 Harshad mehta scam pdf download
bharatbharatjangid46
 
How can I withdraw my hamster tokens to real money in India.
How can I withdraw my hamster tokens to real money in India.How can I withdraw my hamster tokens to real money in India.
How can I withdraw my hamster tokens to real money in India.
CRYPTO SPACE 🪙
 
Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...
Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...
Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...
maigasapphire
 
How do I sell my Hamster kombat currency?
How do I sell my Hamster kombat currency?How do I sell my Hamster kombat currency?
How do I sell my Hamster kombat currency?
CRYPTO SPACE 🪙
 
OAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptx
OAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptxOAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptx
OAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptx
hiddenlevers
 
Chapter_3 Lecture.pptx Agricultural Marketing Extension
Chapter_3 Lecture.pptx Agricultural Marketing ExtensionChapter_3 Lecture.pptx Agricultural Marketing Extension
Chapter_3 Lecture.pptx Agricultural Marketing Extension
HaimanotBAtinkut
 
How can i sell hamster kombat token on Binance exchange!
How can i sell hamster kombat token on Binance exchange!How can i sell hamster kombat token on Binance exchange!
How can i sell hamster kombat token on Binance exchange!
CRYPTO SPACE 🪙
 
AI.It's simple to believe artificial intelligence (AI) has the solution to ev...
AI.It's simple to believe artificial intelligence (AI) has the solution to ev...AI.It's simple to believe artificial intelligence (AI) has the solution to ev...
AI.It's simple to believe artificial intelligence (AI) has the solution to ev...
Thailand Appreciative Inquiry Network
 
ppt on Review of literature 1720335948098.pptx
ppt on Review of literature 1720335948098.pptxppt on Review of literature 1720335948098.pptx
ppt on Review of literature 1720335948098.pptx
coolpool363
 
SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...
SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...
SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...
rightmanforbloodline
 
Girls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in City
Girls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in CityGirls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in City
Girls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in City
margaretblush
 
Introduction to Islamic Banking and Finance.Part4
Introduction to Islamic Banking and Finance.Part4Introduction to Islamic Banking and Finance.Part4
Introduction to Islamic Banking and Finance.Part4
NasrudinMohamedAhmed
 
Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...
Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...
Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...
seenaoberoi
 
how to successfully withdraw hamster tokens to TON - WALLET
how to successfully withdraw hamster tokens to TON - WALLEThow to successfully withdraw hamster tokens to TON - WALLET
how to successfully withdraw hamster tokens to TON - WALLET
CRYPTO SPACE 🪙
 

Recently uploaded (20)

05 BBA 20 23 Sem IV POM Forecasting Methods.pptx
05 BBA 20 23 Sem IV  POM Forecasting Methods.pptx05 BBA 20 23 Sem IV  POM Forecasting Methods.pptx
05 BBA 20 23 Sem IV POM Forecasting Methods.pptx
 
Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...
Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...
Lucknow Girls Call Kesar Bagh 08630512678 Provide Best And Top Girl Service A...
 
Economic Risk Factor Update: July 2024 [SlideShare]
Economic Risk Factor Update: July 2024 [SlideShare]Economic Risk Factor Update: July 2024 [SlideShare]
Economic Risk Factor Update: July 2024 [SlideShare]
 
What is the Secret way of selling hamster kombat tokens online?
What is the Secret way of selling hamster kombat tokens online?What is the Secret way of selling hamster kombat tokens online?
What is the Secret way of selling hamster kombat tokens online?
 
‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf
‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf
‘Not afraid to die’ Kenya tax protests inspire broader demand for change.pdf
 
Northeastern University degree offer diploma Transcript
Northeastern University degree offer diploma TranscriptNortheastern University degree offer diploma Transcript
Northeastern University degree offer diploma Transcript
 
Scam 1992 Harshad mehta scam pdf download
Scam 1992 Harshad mehta scam pdf downloadScam 1992 Harshad mehta scam pdf download
Scam 1992 Harshad mehta scam pdf download
 
How can I withdraw my hamster tokens to real money in India.
How can I withdraw my hamster tokens to real money in India.How can I withdraw my hamster tokens to real money in India.
How can I withdraw my hamster tokens to real money in India.
 
Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...
Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...
Girls Call Marine lines 9910780858 Provide Best And Top Girl Service And No1 ...
 
How do I sell my Hamster kombat currency?
How do I sell my Hamster kombat currency?How do I sell my Hamster kombat currency?
How do I sell my Hamster kombat currency?
 
OAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptx
OAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptxOAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptx
OAT_RI_Ep21 WeighingTheRisks_June24_CommodityInflation.pptx
 
Chapter_3 Lecture.pptx Agricultural Marketing Extension
Chapter_3 Lecture.pptx Agricultural Marketing ExtensionChapter_3 Lecture.pptx Agricultural Marketing Extension
Chapter_3 Lecture.pptx Agricultural Marketing Extension
 
How can i sell hamster kombat token on Binance exchange!
How can i sell hamster kombat token on Binance exchange!How can i sell hamster kombat token on Binance exchange!
How can i sell hamster kombat token on Binance exchange!
 
AI.It's simple to believe artificial intelligence (AI) has the solution to ev...
AI.It's simple to believe artificial intelligence (AI) has the solution to ev...AI.It's simple to believe artificial intelligence (AI) has the solution to ev...
AI.It's simple to believe artificial intelligence (AI) has the solution to ev...
 
ppt on Review of literature 1720335948098.pptx
ppt on Review of literature 1720335948098.pptxppt on Review of literature 1720335948098.pptx
ppt on Review of literature 1720335948098.pptx
 
SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...
SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...
SOLUTIONMANUALInternational Financial Management, 9th Edition By Cheol Eun, B...
 
Girls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in City
Girls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in CityGirls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in City
Girls Call DN Nagar 9910780858 Provide Best And Top Girl Service And No1 in City
 
Introduction to Islamic Banking and Finance.Part4
Introduction to Islamic Banking and Finance.Part4Introduction to Islamic Banking and Finance.Part4
Introduction to Islamic Banking and Finance.Part4
 
Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...
Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...
Bangalore Girls Call Bangalore 0X0000000X Payment On Delevery Cash Hot Premiu...
 
how to successfully withdraw hamster tokens to TON - WALLET
how to successfully withdraw hamster tokens to TON - WALLEThow to successfully withdraw hamster tokens to TON - WALLET
how to successfully withdraw hamster tokens to TON - WALLET
 

Keynes liquidity preference theory of interest rates and income determination

  • 2. CERTIFICATE This is to certify, that the Assignment submitted by me is an outcome of my independent and original work. I have duly acknowledged all the sources from which the ideas and extracts have been taken. I have made this Assignment under the guidelines of my Professor. The project is free from any plagiarism. Kratika Soni
  • 3. ACKNOWLEDGEMENT I would like to acknowledge that the Assignment created by me is completed Under there supervision of my teacher with complete determination and Authenticity. I would also wish to express my gratitude to Professor Dr. Harinarayan Vishwakarma for extended discussions and valuable suggestions which have contributed greatly to the improvement of this project work. Now I would like to extend my gratitude for the pretentious institution Dr. Hari Singh Gour University who has given me an opportunity to learn Interactively through this program of Bachelor of Arts. Specially I would pay regards to all my dear friends who helped me to understand the concept in depth, without them this workpiece could not complete. Their suggestions and comments helped me to finish my work under deadline. I take this opportunity to thank all of those who supported me to complete it. April 6, 2020 Kratika Soni
  • 4. Contents • Introduction • About Keynes • What is interest? • Determination of Rate of interest on money 💰 • Demand of money o Transaction motive o Precautionary motive o Speculation motive • Total demand of money • Total supply of money • Demand and supply equilibrium for determination of rate of interest • Criticism of Keynes Theory of interest • Conclusion • Bibliographie
  • 5. INTRODUCTION Eminent economist of 20th century Lord Keynes has propounded a Monetary Theory of interest in his famous book THE GRNERAL THEORY OF EMPLOYMENT, INTEREST AND MONEY. There were two more theories of determining rate of interest were Propounded which were Classical Theory by J. S. Mill, Prof. Marshall, Walres and Pigou. And Neo-liberal Theory by Robertson and B. Ohlin. But among all such theories Keynes theory is most reliable and trustworthy. Keynes Theory of interest, also known as Liquidity Preference Theory of Interest. The determinants of the equilibrium interest rate in the classical model are the ‘REAL’ factors of the supply of saving and the demand for investment. On the other hand, in the Keynesian analysis, determinants of the interest rate are the ‘MONETARY’ factors alone. Keynes’ analysis concentrates on the demand for and supply of money as the determinants of interest rate. According to Keynes, the rate of interest is purely “A MONETARY PHENOMENON.” Interest is the price paid for borrowed funds. People like to keep cash with them rather than investing cash in assets. Thus, there is a preference for liquid cash.
  • 6. JOHN MAYNARD KEYNES About the economist John Maynard Keynes was born on 5 June 1883, was a British economist, whose ideas or school of thought known as Keynesian economics. During the Great Depression of the 1930s, Keynes advocated the use of fiscal and monetary policies to mitigate the adverse effects of economic recessions and depressions. He detailed these ideas in his magnum opus, The General Theory of Employment, Interest and Money, published in 1936. The Liquidity Preference theory is also one of his great set of ideas.
  • 7. WHAT IS INETREST? Meaning- The money that you pay for borrowing money from a bank, etc. or the money that you earn when you keep money in a bank, etc. According to keynes “ Interest is the reward for parting with liquidity for specific period.” Interest is of two types- Gross Interest and Net interest. It can be easily understand by the Equation below- Gross Interest = Net Interest + Reward of risk + Reward of management+ Reward of inconvenience Rate of interest Meaning- the proportion of a loan that is charged as interest to the borrower, typically expressed as an annual percentage of the loan outstanding. According to Keynes “ The rate of interest is the premium which is to be offered to induce the people to hold wealth in same form then the hoorded money.” As far we can understand the meaning of liquidity by his defination It means cash or preference of cash.
  • 8. DETERMINATION OF INTEREST ON MONEY The two factors on with the rate of interest depends are the demand of money and the supply of money. The rate of interest in the Keynesian theory is determined by the demand for money and supply of money and create a equilibrium condition. DEMAND FOR MONEY DEMAND FOR MONEY IS NOT TO BE CONFUSED WITH THE DEMAND FOR A COMMODITY THAT PEOPLE ‘CONSUME’. BUT SINCE MONEY IS NOT CONSUMED, THE DEMAND FOR MONEY IS A DEMAND TO HOLD AN ASSET. THE DESIRE FOR LIQUIDITY OR DEMAND FOR MONEY ARISES BECAUSE OF THREE MOTIVES: (A) TRANSACTION MOTIVE (B) PRECAUTIONARY MOTIVE (C) SPECULATIVE MOTIVE
  • 9. TRANSACTION DEMAND FOR MONEY: Money which is needed for day to day transaction. Transaction demand for money or need- based money—which directly depends on the level of income of an individual and businesses. People with higher incomes keep more liquid money at hand to meet their need-based transactions. In other words, transaction demand for money is an increasing function of money income. Tdm = f (Y) Where, Tdm stands for transaction demand for money and Y stands for money income. Relationship between transaction demand and rate of interest can be represented as – By the graph shown above it can be seen that the rate of interest is independent to demand for transportation because income comes just once in a month but money needed for transaction required whole month and for transportation the person won’t get any interest on it.
  • 10. PRECAUTIONARY DEMAND FOR MONEY: Money needed for emergency purposes. Future is uncertain. That is why people hold cash balances to meet unforeseen contingencies, like sickness, death, accidents, danger of unemployment, etc. It also depends on the level of money income of an individual but irrespective to rate of interest. This kind of demand for money is also an increasing function of money income. The relationship between precautionary demand for money (Pdm) and the volume of income is normally a direct one. Pdm = f (Y) Relationship between the precautionary motive and rate of interest is also independent to each other because the money saved for precautionary purposes do not give any interest to man. Therefore the graph will be similar as transaction demand. The combined demand for money for both will be equal to Mdm = Tdm + Pdm. …(1)
  • 11. SPECULATIVE DEMAND FOR MONEY: Money left after completion of demand for transaction and precautionary motive and used for investment on risk. This sort of demand for money is really Keynes’ contribution. The speculative motive refers to the desire to hold one’s assets in liquid form to take advantages of market movements regarding the uncertainty and expectation of future changes in the rate of interest. The cash held under this motive is used to make speculative gains by dealing in bonds and securities whose prices and rate of interest fluctuate inversely. Speculative demand for money (Sdm) varies inversely with the rate of interest. Thus, Sdm = f (r) Where, Y is the rate of interest. And f(r) = a∝1/b Relationship between Speculative demand and rate of interest can be represented as-
  • 12. 2 The the curve shown above on x-axis it shows speculative demand of money and on y axis it shows rate of Interest. that means it interest rate are higher as are on liquidity of cash in hand is the least but when rate of interest is very low as are not people don’t prefer to invest instead they prefer to hold money as cash this is known as liquidity trap When rate of interest is 15 the Liquidity is 0, it means the preference on hold money will be least and when rate of interest is 3, Liquidity remains constant. Total demand for money The total demand for money (DM) is the sum of all three types of demand for money. That is, Dm = Tdm + Pdm + Sdm. The demand for money has a negative slope because of the inverse relationship between the speculative demand for money and the rate of interest. However, the negative sloping liquidity preference curve becomes perfectly elastic at a low rate of interest. According to Keynes, there is a floor interest rate below which the rate of interest cannot fall. This minimum rate of interest indicates absolute liquidity preference of the people.
  • 13. 3 The graphical representation of Total demand for money will be - The total liquidity preference is equal total demand for money M1 + M2. The curve LP which shows the total demand for money is a horizontal summation of quantity of money demanded M1, and M2, with the same rate of interest measured on the Y-axis. Thus, in the amount of money balance held OQ is the same OA and has no relation to interest rate. But the amount OR shows OA, +OB, Similarly, OS = OA+OC and OT = OA+OD. Thus, the liquidity preference high interest rate and increase with a fall in
  • 14. 4 the rate of interest. In other words, demand for money and rate of interest are negatively related. Total Supply of money The quantity of Money supply can be determined by monetary authority who has taken this conduct. These authorities are usually the government agencies like in India , RBI take control of supply of money and determine the flow of cash or liquidity in economy. The Supply of money is neither the function of income not rate of interest as the authority do not get any interest in minting currency Therefore, Relation between supply of money and rate of interest are independent to each other. the supply of money is represented by a vertical line at the quantity of money that the Fed decides to put out into the public realm. When the Fed
  • 15. 5 increases the money supply this line shifts to the right. Similarly, when the Fed decreases the money supply, this line shifts to the left. DEMAND AND SUPPLY EQUILIBRIUM For determination of rate of interest as per the theory suggested by Keynes The graphical representation of equilibrium shown below- OM is the total amount of money supplied by the central bank. At point E, demand for money becomes equal to the supply of money. Thus, the equilibrium interest rate is determined.
  • 16. 6 In such a situation, supply of money will exceed the demand for money. People will purchase more securities. Consequently, its price will rise and interest rate will fall until demand for money becomes equal to the supply of money. On the other hand, if the rate of interest becomes less than or, demand for money will exceed supply of money, people will sell their securities. CRITICISM EVEN KEYNES’ LIQUIDITY PREFERENCE THEORY IS NOT FREE FROM CRITICISMS: • Firstly, like the classical and neo-classical theories, Keynes’ theory is an indeterminate one. Keynes charged the classical theory on the ground that it assumed the level of employment fixed. • Secondly, Keynes committed an error in rejecting real factors as the determinants of interest rate determination. • Thirdly, Keynes’ theory gives a choice between holding risky bonds and riskless cash. An individual holds either bond or cash and never both. In the real world, it is the uncertainty or risk that induces an individual to hold both. This gap in
  • 17. 7 Keynes’ theory has been filled up by James Tobin. In fact, today people make a choice between a variety of assets. CONCLUSION Despite these criticisms, Keynes’ liquidity preference theory tells a lot on income, output and employment of a country. His basic purpose was to demonstrate that a capitalist economy can never reach full employment due to the existence of liquidity trap. Though the liquidity trap has been overemphasized by Keynes yet he demolished the classical conclusion the goal of full employment. Further, his theory has an important policy implication. The RBI is incapable of reviving a capitalistic economy during depression because of liquidity trap. Although Keynes theory is one of the best theory ever discovered and this give scope to Economists to know more about interest.
  • 18. BIBLIOGRAPHIE Here is the list of reference that were used to complete this assignment. 1. Principles of microeconomics by H. L. Aahuja 2. www.google.com 3. www.investopedia.in 4. Heena Chadha YouTube