4 - precautionary and speculative demand for money Flashcards
what is precautionary saving?
precautionary saving is a part of income saved because of the uncertainty about future income and consumption needs
what are the factors affecting precautionary demand for money?
return on investment, cost of withdrawel/ brokerage costs, planned expenditure and risk aversion ( volatility of future expenditure/income, the degree of risk aversion, availability of substitutes, penalty rate)
what is W mean in the equation for one period demand for money
money at the beginning of the period
what is N mean in the equation for one period demand for money
needs for spending/liquidity shock - distributed with CDF F(N) , density f(N)
if the needs N are greater than the money availiable, what is paid on the difference?
the penalty rate p should be paid on the difference
what is greater, the savings rate R or the penalty rate p?
the penalty rate p is greater than the savings rate R
what is the equation of the total assets portfolio
π(W)=R(Y-W) - p ∫ (N-W)f(N)dN where W is money at beginning of period
N is needs for spending
Y is income
R is savings rate
p is penalty rate
what is the optimal level of cash to hold and how to find it?
differentiate total value of assets portfolio with respect to W and then equal it to zero
F(W)= (p-R)/p
how does the optimal level of cash vary according to penalty rate?
the optimal level of cash increases with the penalty rate
how does the optimal level of cash vary according to the savings rate?
it decreases with the savings rate R
what are the sources of liquidty risk in banking?
withdrawel from the transaction deposit
take down of the loan committments
default
how does the profit of the bank vary according to the loans
if bank holds too much reserves, it does not give enough loans then the profit is smaller
if the bank has too little reserves, there may not be enough liquidity and bank may need to tkae a loan at the high rate.
what is money?
money is an asset with real return equal to the inverse inflation
what does the happiness vs income function look like?
utility function is concave with its differential decreasing and is second differential that is negative
what is the formula for the markowitz utility?
utility = 𝜇 - 0.5ρ𝜎^2
𝜇 = M × 𝑅^𝑚 + (1 − M) × 𝑅
𝑠 = (1 − 𝑀)𝜎
where:
μ- return on portfolio;
s- standard deviation of the return of portfolio;
ρ- risk aversion parameter
R-return on risky asset
σ- standard deviation of risky asset
1-total investment
M- share of money in portfolio
(1-M)- share of risky asset
R^m-return on money
