Demand and Supply of Money

1) Meaning: what is “money” in macro?

In macroeconomics, money is any asset that is generally accepted as a means of payment. It performs key functions:

1. Medium of exchange
2. Unit of account
3. Store of value
4. Standard of deferred payments

1.1 Monetary aggregates (India – concept level)

In India, broad idea:

• Narrow money (M1): currency with public + demand deposits + other deposits with RBI (as defined by RBI; definitions can vary by year)
• Broad money (M3): M1 + time deposits with banks (commonly used as broad money measure)

For CUET-style MCQs: know that M1 is narrower, M3 is broader.

2) Demand for money: what does it mean?

Demand for money is the desire to hold wealth in the form of money (cash + bank deposits) rather than other assets.

We usually express it as a demand for real money balances:

because the purchasing power of money depends on the price level $P$.

3) Classical approach: transactions demand (Cambridge form)

Classical economists emphasized money as a medium of exchange.

3.1 Cambridge cash-balance approach

People hold a fraction $k$ of nominal income as money:

So real money demand:

Implications:

• Money demand rises with income $Y$.
• Interest rate is not central in the simplest classical form.

4) Keynesian demand for money (liquidity preference)

Keynes explained money demand with three motives:

4.1 Transactions motive

Money held for daily purchases.

• Increases with income.