Demand for money refers to desire to hold money for.fulfilling different requirements. People keep money for day-to-day activities, to meet consequential expenses and to invest on shares and debentures. J.M.Keynes, in his General Theory used a new term ‘liquidity preference’ for the demand for money. J.M.Keynes suggested three motives which led to the demand for money in an economy.
They are as follows:
(a) Transaction demand for money: When people hold cash to meet daily transactions is called transaction demand for money. The transaction motive relates to the demand for money for the day to day expenditure of individuals and business firms. The need for holding cash arises due to a time gap between receipt of income and the consumption expenditure. As income increases, people like to spend more and in turn they demand more money to hold. The Transaction demand for money is represented as follows:
Md T = f (Y) where, Md T represents the transaction demand for money, Y represents the income of an individual and T represents functional relationship between two variables.
(b) Precautionary Motive: People keep money to meet unexpected expenses or circumstances, e.g. people hold cash to meet medical treatment, accidents, emergencies, to perform some rituals or celebrations etc. We need to hold cash for meeting such emergencies in our life. If we demand money for such needs, it is known as precautionary demand for money. As income rises, precautionary demand for money also gets increased and if the income falls, the precautionary demand for money also falls. This can be expressed as follows:
Mdp = f (Y), where Mdp represents the precautionary demand for money, Y represents the income of an individual and ‘f’ represents functional relationship between two variables.
(c) Speculative Motive: Some people hold cash to invest on shares, debentures, gold, immovable properties etc. The speculative demand for money refers to the demand for money that people hold as idle cash to speculate with the aim of earning capital gains and profits. According to J.M.Keynes there will be inverse relationship between the rate of interest and speculative demand for money. If the rate of interest is low the people desire to keep more cash with them and vice versa. So, the speculative demand for money is inversely related to the expected rate of interest. This can be expressed as follows:
Mds = f (ie), where Mds represents the Speculative demand for money, (ie), represents the expected rate of interest, and ‘f ’ represents functional relationship between two variables.
