What is the theory of liquidity preference?
John Maynard Keynes, whose Keynesian economy significantly influenced federal fiscal policy during the Great Economic Crisis in the United States, first introduced the theory of liquidity preference in 1935. chest of drawers and chest of drawers and chest of drawers and chest of drawers and chest of drawers and chest of drawers, and chest of drawers and chest of drawers such as chest of drawers and chest of drawers and chest of drawers and chest of drawers and chest of drawers and chest of drawers and chest of drawers and chest of drawers such as a chest of drawers and chest of drawers chest of drawers and chest of drawers and chests of drawers. In order to support long -term investments, banks offer interest in compensating their loss of liquidity. Investors expect interest rates for longer -term investments to exceed short -term investment investments and these expectations increase investment interest income.
Three reasons are responsible for the investmentThe behavior described by the theory of liquidity preference. First, from great depression, people usually expect and plan in difficult times and maintain some spare cash for emergencies. Second, people need money to pay accounts to participate in business. Both of these motivations are largely dependent on the income level. Finally, people want to get the best return for their money and do not want to miss a better interest rate next year by tied their money in a long -term bond.
When interest rates are low, investors expect to increase. They will have their wealth in liquid accounts for transactions and buffers against crises. They decide to buy bonds and believe that the yield is not worth investing. They will wait for them to invest until interest rates increase.
If interest rates are high, investors expect to drop. They will maintain a minimumLiquid amounts of liquid sources to cover immediate expenditure. In order to lock high interest rates, they are likely to invest in long -term bonds. The demand for money is fully balanced by the desire for high returns.
money demand reduces money supply. Economists calculate the speed of money by dividing the gross domestic product (GDP) by the sum of the circulating money and resources stored in checks. Increasing the production of goods and services in the country increases the speed of money and reduces the demand for money. The increased speed of money correlates with lower interest rates and increased preference in liquidity.
Theory of liquidity preference is a modification of the theory of pure expectations. According to the theory of pure expectations, the yield of a ten -year bond should be equivalent to the yield of two consecutive five -year bonds. The theory of liquidity preference points out that there should be a bond for a ten -year bond due to lower liquidity and higher risk of default value associated with delies with a contract. As a result, a decade for a ten -year bond should be higher than in two consecutive five -year bonds.
The yield curve is a graphic of the representation of interest rates for increasing the duration of investment. When the yield is carried on the vertical axis and duration on the horizontal axis, the conventional curve of the yield with the slopes up and transport, which is gradually indicated by higher revenues with a longer investment in accordance with the theory of liquidity preference. This curve is called a positive yield curve, indicating the relative stability of interest rates. Although interest rates rise with duration, the measure at which the curve rises with increasing duration. The reasons for slowing the interest rate curve include lower volatility and sensitivity to the interest rate changes over time.