Unit IV: The Money Market

The money market is where the Federal Reserve and the users of money interact, thus determining the nominal interest rate (i%). It is composed of two parts:

• Money demand (MD) comes from households, firms, government, and the foreign sector.
• Money supply (MS) is determined only by the Federal Reserve.

Money demand is further divided into three parts:

• Transaction demand is the demand for money as a medium of exchange (independent of interest rate).
• Asset demand is the demand for money as a store of value (dependent of the interest rate).
• Total money demand
• MD is downward sloping because at high interest rates people are less inclined to hold money and more inclined to hold stocks and bonds
• At lower interest rates people sacrifice less when they hold money

Money supply is determined by the Federal Reserve because the Federal Reserve has monopoly control over the supply of money.

For more information, please refer to these videos on Khan Academy:

Demand curve for money in the money market: https://www.khanacademy.org/economics-finance-domain/ap-macroeconomics/ap-financial-sector/the-money-market-apmacro/v/demand-curve-for-money-in-the-money-market-ap-macroeconomics-khan-academy?modal=1

Equilibrium nominal interest rates in the money markets: https://www.khanacademy.org/economics-finance-domain/ap-macroeconomics/ap-financial-sector/the-money-market-apmacro/v/equilibrium-nominal-interest-rates-in-the-money-market-ap-macroeconomics-khan-academy?modal=1