Question

John Maynard Keynes identified three motives for holding money. Which motive listed below did Keynes not identify? (L.O4) a) Transactions b) Precautionary c) Psychological d) Speculative

Short answer

The correct answer is (c) Psychological, as it is not one of the motives for holding money mentioned by John Maynard Keynes.

Step-by-step solution

List the three motives for holding money identified by Keynes

John Maynard Keynes identified three motives for holding money. They are: 1. Transactions motive 2. Precautionary motive 3. Speculative motive

Go through the given options and compare them with Keynes' list

Now we'll go through each of the given options and compare them to the motives identified by Keynes: a) Transactions: This is one of the motives identified by Keynes (the transactions motive). So this is not the correct answer. b) Precautionary: This is also one of the motives identified by Keynes (the precautionary motive). So this is not the correct answer either. c) Psychological: This is not one of the motives identified by Keynes. It might be an answer, but let's check the last option to be sure. d) Speculative: This is one of the motives identified by Keynes (the speculative motive). So this is not the correct answer.

Identify the correct answer

Since we have verified that options (a), (b), and (d) are motives identified by Keynes, the correct answer is (c) Psychological, as it is not one of the motives for holding money mentioned by John Maynard Keynes.

Key concepts

Keynes' Motives for Holding Money

John Maynard Keynes, a prominent economist, introduced a theory explaining why individuals and businesses choose to retain cash instead of investing or spending it immediately. This theory is crucial to understanding how money functions within an economy, especially during times of uncertainty. Keynes proposed three core motives for holding money: the transactions motive, the precautionary motive, and the speculative motive.

Understanding these motives helps us grasp why liquidity is vital for the functioning of the economy. It gives insight into the behaviors of consumers and businesses, particularly during different economic cycles, and is foundational to Keynesian economics. By examining Keynes' motives, we can better understand how decisions related to money holding can impact overall economic stability and activity.

Transactions Motive

The transactions motive relates to the need for cash to carry out the day-to-day transactions that are part of normal living and business operations. Individuals hold money to cover everyday expenses, such as groceries, rent, and commuting costs. Similarly, businesses need cash on hand to pay for operational costs like salaries, utilities, and inventory supplies.

Impact on Liquidity

The desire for liquidity for transactional purposes is influenced by income: typically, the higher the income, the more money is needed for transactions. Moreover, if income or payment schedules are irregular, individuals and businesses might hold more money to ensure they have enough to cover these transactions. Understanding the transactions motive is essential for comprehending why people tend to keep a certain amount of liquid cash.

Precautionary Motive

The precautionary motive refers to holding money as a safeguard against unforeseen events that require unexpected payments. These could include emergency medical expenses, sudden home repairs, or economic downturns that affect income flow.

Savings Buffers

People build savings buffers according to the level of risk they associate with future uncertainties. The greater the perceived risk, the more money they may choose to keep in reserve. The precautionary motive often leads to a direct relationship between the amount of money held and the overall level of economic and personal uncertainty. Keynes highlighted that it's sensible for individuals and firms to maintain a degree of liquidity for precautionary reasons even if this means forfeiting potential investment returns.

Speculative Motive

The speculative motive is based on the desire to hold liquid funds to take advantage of future investments, particularly when the return on such investments is expected to exceed the interest that would be earned on holding the money. Individuals and businesses might speculate on the future changes in the interest rates or other investment opportunities.

Financial Opportunities

The choice to hold or release funds for speculative reasons can significantly impact the financial markets and the economy. For instance, if interest rates are expected to rise, individuals might hold more money to take advantage of the higher rates in the future. Conversely, if rates are expected to fall, they may invest quickly before returns diminish. The speculative motive shows the strategic side of liquidity preferences and plays a crucial role during times of financial volatility.