In: Economics
Assume that the following data characterize a hypothetical economy: money supply = $200 billion; quantity of money demanded for transactions = $150 billion; quantity of money demanded as an asset = $25 billion at 14 percent interest, increasing by $5 billion for each 1 percentage point fall in the interest rate. The equilibrium interest rate is equal to ____.
a. 2%.
b. 3%.
c. 4%.
d. 4.5%.
e. 9%.
Solution :-
Given that, the money supply is $200 billion, quantity of money demanded for transactions is $150 billion, quantity of money demanded as an asset is $25 billion at 14% interest increasing $5 billion for each 1% fall in the interest rate.
Below Table shows the calculation of the interest rate:-
Interest Rate | Quantity of Money Demanded as an asset | Quantity of Money Demanded for Transaction | Total Quantity of money demanded | Quantity of money supplied |
14% | $25 | $150 | $175 | $200 |
13% | $30 | $150 | $180 | $200 |
12% | $35 | $150 | $185 | $200 |
11% | $40 | $150 | $190 | $200 |
10% | $45 | $150 | $195 | $200 |
9% | $50 | $150 | $200 | $200 |
Here, total quantity of money demanded is sum of the quantity of money demanded as an asset and transaction.
The equilibrium interest rate in country T is at the point where
the quantity of money demanded is equal to the quantity of money
supplied.
Therefore, from the above table it can be observed that the
equilibrium interest rate at country T is
9%.