CA Foundation · Business Economics · Money Market
At an interest rate above the equilibrium rate in the money market, with a fixed money supply, which adjustment is expected?
When the interest rate is above equilibrium, the public holds more money than it wants, so it buys bonds. Rising bond prices push the interest rate down until money demand equals the fixed money supply again.
- ADemand for money exceeds supply, so bond prices fall and rates rise further
- BSupply of money exceeds demand, so people buy bonds, bond prices rise and the interest rate fallsCorrect
- CSupply of money exceeds demand, so people sell bonds and the interest rate rises
- DMoney demand equals money supply, so no adjustment occurs
Explanation
At a rate above equilibrium, people want to hold less money than exists. They use the surplus to buy bonds, raising bond prices, which lowers the interest rate toward equilibrium. Options 1 and 3 give the wrong direction.
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