Question

9. According to the theory of liquidity preference, the supply of real money balances: A) decreases as the interest rate increases. B) increases as the interest rate increases. C) increases as income increases. D) is fixed by the central bank.

Answer 1

Answer:

D. Is fixed by the central bank

Explanation:

The theory of liquidity preference explains that people don't demand for money due to borrowing but rather because of the innate desire to hold money. The theory was developed by the father of Macroeconomics, John Maynard Keynes. He pointed out to interest rate being the price of money. According to him, there are 3 motives for holding money which are transactionary, precautionary and speculatory and that the supply of real money balances is fixed.