CUET UG Economics Booster Test 3

🚀

CUET UG Economics Booster Test 3 - Demand for Money

⏱️ 30 Minutes

❓ 20 Questions

📌 Answers are locked once submitted — results and explanations appear at the end.

CUET UG Economics Booster Test 3 - Demand for Money

1 / 20

QUESTION 1 OF 20

Which of the following best differentiates money demand from money supply?

Answer Review

1 Which of the following best differentiates money demand from money supply?

A Money demand is decided by the central bank, while money supply is decided by individuals.

B Money demand is a flow concept, while money supply is a stock concept.

C Money demand involves fiat money, while money supply involves barter exchange.

D Money demand reflects individuals' desire to hold liquid cash, while money supply is the total stock of money in circulation among the public.

💡 Short Explanation

�� Money demand refers to the desire to hold money. �� Money supply refers to the stock of money available. �� Demand and supply are conceptually different.

✅ Correct Answer Explanation

Money demand refers to the amount of money that individuals and firms wish to hold as a liquid asset at a given time. It reflects people's preference for holding cash balances. Money supply refers to the total stock of money available with the public, determined largely by the central bank and the banking system. Therefore, Option D correctly distinguishes between the two concepts. Option A reverses the roles of individuals and the central bank. Option B is incorrect because money demand is also treated as a stock concept. Option C incorrectly associates money supply with barter. Hence, Option D is correct.

❓ Why Other Options Are Incorrect

�� Option A → The central bank primarily influences money supply, not money demand.
�� Option B → Money demand is measured as the stock of money held at a point in time.
�� Option C → Money supply includes currency and deposits, not barter exchange.

🎯 Strategy

Used

Odd One Out

Application:

Identify the option that correctly distinguishes between the concepts of money demand and money supply.

Final Logic:

Money demand = desire to hold money; money supply = stock of money.

🧠 Memory Trick

Demand = Desire | Supply = Stock

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Meaning of Demand for Money

2 Arrange the sequence of macroeconomic events leading to an increase in total money demand:
1. Quantum of transactions to be made by people increases.
2. Overall income level in the economy rises.
3. People desire a larger amount of money to conduct their exchanges.
4. Total value of transactions determines the new required money balances.

A 1, 2, 4, 3

B 2, 1, 4, 3

C 3, 4, 2, 1

D 4, 3, 1, 2

💡 Short Explanation

�� Income rises first. �� More income creates more transactions. �� Greater transaction value increases money demand.

✅ Correct Answer Explanation

The logical sequence is: Step 2: Overall income in the economy increases. Step 1: Higher income leads to a greater quantum of transactions. Step 4: The increased value of transactions determines the required money balances. Step 3: Consequently, people demand more money to carry out these transactions. Thus, the correct order is: 2 → 1 → 4 → 3 Hence, Option B is correct. The remaining options either reverse the causal relationship or place money demand before the increase in transactions.

❓ Why Other Options Are Incorrect

�� Option A → Transactions cannot increase before income rises.
�� Option C → Money demand cannot increase before the determinants change.
�� Option D → Begins with transaction value before income changes.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Arrange the events according to the NCERT explanation of transaction demand.

Final Logic:

Income ↑ → Transactions ↑ → Money Needed ↑.

🧠 Memory Trick

Income → Transactions → Money

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Determinants of Transaction Demand

3 A person receives Rs 100 on the first day of the month and runs down this balance evenly over the month. The average cash holding is calculated as ____________, with which they are making transactions worth ____________ per month.

A Rs 50; Rs 100

B Rs 100; Rs 200

C Rs 0; Rs 100

D Rs 50; Rs 50

💡 Short Explanation

�� Cash starts at Rs 100. �� It declines evenly to zero. �� Average holding equals Rs 50.

✅ Correct Answer Explanation

A person receives Rs 100 at the beginning of the month and spends it uniformly until the balance reaches Rs 0 at the end. Average cash holding is: (Rs 100 + Rs 0) ÷ 2 = Rs 50 During the month, this person makes transactions worth Rs 100, equal to the salary received. Therefore, Option A is correct. Option B incorrectly doubles both figures. Option C ignores the average balance. Option D incorrectly states the value of transactions.

❓ Why Other Options Are Incorrect

�� Option B → Average cash holding is not Rs 100, and monthly transactions are Rs 100.
�� Option C → Average cash balance cannot be zero.
�� Option D → Transactions are Rs 100, not Rs 50.

🎯 Strategy

Used

Substitution

Application:

Use the average balance formula from the NCERT worker example.

Final Logic:

Average Cash = (100 + 0)/2 = 50.

🧠 Memory Trick

100 → 0 = Average 50

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Transactions Motive Example

4 Analyze the two-person economy involving a firm and a worker. Which statements are correct regarding their transaction needs?
I. The total volume of monthly transactions in this economy is Rs 200.
II. Each rupee changes hands twice a month.
III. The average money holding of the firm as well as the worker is equal to Rs 100 each.

A I and III only

B II and III only

C I and II only

D I, II, and III

💡 Short Explanation

�� Total monthly transactions equal Rs 200. �� Each rupee circulates twice during the month. �� Average money holding of each person is Rs 50, not Rs 100.

✅ Correct Answer Explanation

From the NCERT two-person economy example: The worker receives Rs 100 from the firm as wages. The worker later spends Rs 100 purchasing goods from the firm. Thus: Total monthly transactions = Rs 100 + Rs 100 = Rs 200. Therefore, Statement I is correct. The same Rs 100 changes hands twice (firm → worker and worker → firm), so Statement II is correct. The average cash balance of both the worker and the firm is Rs 50 each, not Rs 100. Hence, Statement III is incorrect. Therefore, only Statements I and II are correct. Hence, Option C is the correct answer.

❓ Why Other Options Are Incorrect

�� Option A → Includes Statement III, which is incorrect because the average cash holding is Rs 50.
�� Option B → Excludes Statement I, which is correct.
�� Option D → Incorrect because Statement III is false.

🎯 Strategy

Used

Elimination

Application:

Identify the incorrect statement first and eliminate every option containing it.

Final Logic:

Statement III is false, leaving only Option C.

🧠 Memory Trick

200 Transactions • 2 Transfers • 50 Average

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Transactions Motive and Velocity of Money

5 If an economy's total value of annual transactions includes transactions in all intermediate goods and services, how does this relate to nominal GDP?

A It is exactly equal to the nominal GDP.

B It is significantly less than the nominal GDP.

C It is clearly much greater than the nominal GDP, though a stable positive relationship exists between them.

D It is completely independent of the nominal GDP.

💡 Short Explanation

�� Total transactions include intermediate goods. �� Nominal GDP includes only final goods and services. �� A stable positive relationship exists between the two.

✅ Correct Answer Explanation

The total value of transactions includes purchases and sales of: Final goods and services, Intermediate goods, Financial transactions, Other market transactions. In contrast, nominal GDP measures only the value of final goods and services produced during the year to avoid double counting. Therefore, the total value of transactions is much larger than nominal GDP. However, NCERT assumes a stable positive relationship between them, allowing the transaction demand equation: MdT = kPY Hence, Option C is correct. Option A is incorrect because GDP excludes intermediate transactions. Option B is incorrect because total transactions exceed GDP. Option D is incorrect because there is a stable positive relationship between total transactions and nominal GDP.

❓ Why Other Options Are Incorrect

�� Option A → GDP excludes intermediate goods, whereas total transactions include them.
�� Option B → Total transaction value is generally greater than nominal GDP.
�� Option D → NCERT explicitly assumes a stable positive relationship between total transactions and nominal GDP.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Recall the NCERT distinction between total transactions and nominal GDP.

Final Logic:

Transactions > Nominal GDP, but both move positively together.

🧠 Memory Trick

Transactions > GDP

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Relation Between Transactions and Nominal GDP

6 Assertion (A): An increase in real GDP (Y) causes the transaction demand for money to rise, assuming the price level (P) remains constant.
Reason (R): Transaction demand for money is inversely related to real income and price level.

A Both false

B A true, R false

C Both true, R explains A

D A false, R true

💡 Short Explanation

�� Transaction demand depends positively on real GDP. �� It also depends positively on the price level. �� The reason incorrectly states an inverse relationship.

✅ Correct Answer Explanation

The transaction demand for money is represented by: MdT = kPY where: P = General price level Y = Real GDP If P remains constant and Y increases, nominal GDP (PY) increases. Consequently, transaction demand for money also increases. Therefore, the Assertion is true. The Reason is false because transaction demand is directly, not inversely, related to both real income and the price level. Hence, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → The assertion is true.
�� Option C → The reason is false and cannot explain the assertion.
�� Option D → The assertion is not false.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Evaluate the assertion and reason independently using the equation MdT = kPY.

Final Logic:

Real GDP ↑ → Transaction Demand ↑.

🧠 Memory Trick

Y ↑ = Money Demand ↑

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Transaction Demand for Money

7 Match the Following concerning the opportunity cost of holding money:

List 1	List 2
1. Increased supply of money injected into economy	a. Bond prices will rise
2. Purchase of bonds with extra money	b. Rate of interest will decline
3. Result on bond prices	c. Demand for bonds will go up
4. Result on rate of interest	d. Price to pay for holding money balance comes down

A 1-d, 2-c, 3-a, 4-b

B 1-a, 2-b, 3-c, 4-d

C 1-c, 2-a, 3-b, 4-d

D 1-b, 2-d, 3-a, 4-c

💡 Short Explanation

�� More money supply lowers interest rates. �� People purchase more bonds. �� Bond prices rise and the opportunity cost of holding money falls.

✅ Correct Answer Explanation

The NCERT sequence is: Increased money supply reduces the opportunity cost (price) of holding money because interest rates eventually fall. → 1 → d Extra money is used to purchase bonds. → 2 → c Higher demand for bonds raises their prices. → 3 → a Higher bond prices imply a fall in the market rate of interest. → 4 → b Thus the matching is: 1 → d 2 → c 3 → a 4 → b Hence, Option A is correct.

❓ Why Other Options Are Incorrect

�� Option B → Incorrectly matches increased money supply with rising bond prices directly.
�� Option C → Reverses the economic sequence.
�� Option D → Incorrectly links money supply directly to interest rates without the intermediate bond market adjustment.

🎯 Strategy

Used

Option Grouping

Application:

Follow the causal chain from increased money supply to bond market adjustments.

Final Logic:

Money Supply ↑ → Bond Demand ↑ → Bond Price ↑ → Interest ↓.

🧠 Memory Trick

Money ↑ → Bonds ↑ → Interest ↓

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Opportunity Cost and Bond Market

8 Consider the speculative demand function
MdS = (r_max − r) / (r − r_min).
If the current market interest rate (r) approaches the upper limit (r_max), what happens to the mathematical value of the speculative money demand?

A It approaches infinity.

B It becomes equal to transaction demand.

C It becomes purely negative.

D It approaches zero.

💡 Short Explanation

�� At r = r_max, the numerator becomes zero. �� The denominator remains positive. �� Therefore, speculative demand approaches zero.

✅ Correct Answer Explanation

Using the given function: MdS = (r_max − r)/(r − r_min) As r approaches r_max: Numerator → 0 Denominator → Positive value Therefore, MdS → 0 Economically, at very high interest rates, people invest in bonds instead of holding speculative money balances. Hence, Option D is correct.

❓ Why Other Options Are Incorrect

�� Option A → Infinite demand occurs near r_min, not r_max.
�� Option B → There is no mathematical basis for equality with transaction demand.
�� Option C → The expression does not become negative within the specified range.

🎯 Strategy

Used

Substitution

Application:

Substitute r = r_max into the speculative demand function.

Final Logic:

Numerator = 0 ⇒ MdS = 0.

🧠 Memory Trick

r_max → Speculative Demand = 0

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Speculative Demand Function

9 Under what specific condition does the speculative money demand function become infinitely elastic, satiating people's craving for money balances without increasing demand for bonds?

A When the market rate of interest falls to its floor (r_min), creating a liquidity trap.

B When the market rate of interest rises to its ceiling (r_max).

C When the central bank issues fiat money with no intrinsic value.

D When the velocity of circulation is doubled.

💡 Short Explanation

�� Liquidity trap occurs at r_min. �� Everyone expects future interest rates to rise. �� Speculative demand becomes infinitely elastic.

✅ Correct Answer Explanation

When the market rate of interest reaches r_min, people expect interest rates to increase in the future. Since higher interest rates reduce bond prices, investors avoid bonds and prefer holding money. At this stage, additional money supplied is willingly held as cash rather than used to purchase bonds. This is called the liquidity trap, where speculative demand becomes perfectly elastic (infinitely elastic). Therefore, Option A is correct.

❓ Why Other Options Are Incorrect

�� Option B → At r_max, speculative demand approaches zero.
�� Option C → Fiat money has no connection with liquidity traps.
�� Option D → Velocity does not determine the liquidity trap.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Recall the NCERT definition of the liquidity trap.

Final Logic:

r_min → Liquidity Trap → Infinite Speculative Demand.

🧠 Memory Trick

Lowest Interest = Liquidity Trap

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Liquidity Trap

10 In the context of liquidity preference, if the market rate of interest is extremely high (r = r_max), everyone is sure about a future ____________, and thus everyone has converted their speculative money balance into ____________.

A capital loss; money

B inflation; physical assets

C drop in purchasing power; legal tenders

D capital gain; bonds

💡 Short Explanation

�� High interest rates are expected to fall. �� Falling interest rates increase bond prices. �� Investors expect capital gains and buy bonds.

✅ Correct Answer Explanation

When the market interest rate is very high (r = r_max), investors expect it to fall in the future. Since bond prices move inversely with interest rates, falling interest rates increase bond prices, generating capital gains. Therefore, individuals convert their speculative money balances into bonds. Hence, Option D is correct. Option A describes the situation at very low interest rates. Options B and C are unrelated to speculative demand theory.

❓ Why Other Options Are Incorrect

�� Option A → Capital loss is expected when interest rates are very low and expected to rise.
�� Option B → Inflation is not the determining factor in speculative demand.
�� Option C → Purchasing power is unrelated to this speculative decision.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Recall the inverse relationship between bond prices and interest rates.

Final Logic:

High Interest → Future Fall → Bond Price Rise → Capital Gain.

🧠 Memory Trick

High Interest → Buy Bonds

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Speculative Demand for Money

11 Match the Following terms from the equation v.MdT = T:

List 1	List 2
1. v	a. Total value of monetary transactions made with stock in a unit period
2. MdT	b. Total value of nominal transactions over unit period
3. T	c. Velocity of circulation
4. v.MdT	d. Stock of money people are willing to hold

A 1-a, 2-b, 3-c, 4-d

B 1-c, 2-d, 3-b, 4-a

C 1-b, 2-c, 3-a, 4-d

D 1-d, 2-a, 3-c, 4-b

💡 Short Explanation

�� v represents velocity of circulation. �� MdT is the stock of money held for transactions. �� v.MdT gives the total value of monetary transactions.

✅ Correct Answer Explanation

From the equation: v × MdT = T v = Velocity of circulation of money → c MdT = Stock of money people are willing to hold for transactions → d T = Total value of nominal transactions over a unit period → b v.MdT = Total value of monetary transactions generated by the money stock during the period → a Thus, the correct matching is: 1 → c 2 → d 3 → b 4 → a Hence, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Incorrectly exchanges the meanings of velocity and transactions.
�� Option C → Incorrectly identifies MdT and velocity.
�� Option D → Incorrectly matches almost every concept.

🎯 Strategy

Used

Option Grouping

Application:

Match each symbol in the equation with its NCERT definition.

Final Logic:

Only Option B correctly matches all four terms.

🧠 Memory Trick

v = Velocity • MdT = Money Held

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Velocity of Money and Transaction Demand

12 Regarding the equation MdT = kPY, which of the following statements are correct?
I. PY represents the nominal GDP.
II. P represents the general price level or GDP deflator.
III. The transaction demand is inversely proportional to Y.

A I, II, and III

B I and II only

C II and III only

D I and III only

💡 Short Explanation

�� PY equals nominal GDP. �� P is the GDP deflator. �� Transaction demand is directly proportional to Y.

✅ Correct Answer Explanation

From the NCERT equation: MdT = kPY P = General price level (GDP deflator). Y = Real GDP. PY = Nominal GDP. Therefore: Statement I is correct. Statement II is correct. Statement III is incorrect because transaction demand is directly, not inversely, proportional to Y. Hence, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Includes Statement III, which is false.
�� Option C → Statement III is incorrect.
�� Option D → Includes the incorrect Statement III.

🎯 Strategy

Used

Elimination

Application:

Identify the incorrect statement first and eliminate all options containing it.

Final Logic:

Since Statement III is false, Option B is correct.

🧠 Memory Trick

P × Y = Nominal GDP

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Transaction Demand Equation

13 If the fraction 'k' representing the ratio of money balance to the value of transactions is 0.25, what is the velocity of circulation of money (v)?

A 0.25

B 2.5

C 0.75

D 4

💡 Short Explanation

�� Velocity is the reciprocal of k. �� v = 1/k. �� 1 ÷ 0.25 = 4.

✅ Correct Answer Explanation

The relationship between velocity and k is: v = 1/k Given: k = 0.25 Therefore, v = 1 / 0.25 = 4 Hence, Option D is correct. The remaining options result from incorrect calculations or misunderstanding the reciprocal relationship.

❓ Why Other Options Are Incorrect

�� Option A → This is the value of k, not velocity.
�� Option B → Incorrect reciprocal calculation.
�� Option C → Does not satisfy v = 1/k.

🎯 Strategy

Used

Substitution

Application:

Substitute the given value of k into v = 1/k.

Final Logic:

1 ÷ 0.25 = 4.

🧠 Memory Trick

Velocity = 1/k

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Velocity of Circulation of Money

14 While money demand (MdT) is a ____________ concept, the velocity of money (v) has a ____________ dimension, referring to the number of times every unit of stock changes hands.

A legal; theoretical

B stock; time

C flow; spatial

D fiat; time

💡 Short Explanation

�� Money demand is measured at a point in time. �� Velocity is measured over a period. �� Thus, velocity has a time dimension.

✅ Correct Answer Explanation

Money demand (MdT) represents the amount of money people wish to hold at a particular moment, making it a stock concept. Velocity of money measures how many times money changes hands during a period, making it a concept with a time dimension. Therefore, Option B is correct. Option A uses unrelated terms. Option C incorrectly identifies money demand as a flow variable. Option D incorrectly introduces fiat money.

❓ Why Other Options Are Incorrect

�� Option A → "Legal" and "theoretical" are unrelated to stock-flow analysis.
�� Option C → Money demand is not a flow concept.
�� Option D → Fiat money is unrelated to the stock-flow distinction.

🎯 Strategy

Used

Odd One Out

Application:

Separate stock concepts from variables measured over time.

Final Logic:

Money Demand = Stock; Velocity = Time Dimension.

🧠 Memory Trick

Money Held = Stock | Velocity = Time

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Stock and Flow Concepts

15 How does an individual determine the present value of a future stream of monetary returns from a bond?

A By calculating how much money, kept in a savings account at the current interest rate, would generate the same return over the same period.

B By observing the physical intrinsic value of the paper it is printed on.

C By adding the face value to the exact inflation rate.

D By dividing the coupon rate by the statutory liquidity ratio.

💡 Short Explanation

�� Present value is obtained through discounting. �� Future returns are converted into today's value. �� The market interest rate is used for discounting.

✅ Correct Answer Explanation

The present value (PV) of a bond is determined by finding the amount that, if invested today at the current market interest rate, would generate the same future payments promised by the bond. This is the standard discounting process explained in the NCERT. Therefore, Option A is correct. Option B ignores the financial value of the bond. Option C has no role in present value calculation. Option D uses unrelated banking terminology.

❓ Why Other Options Are Incorrect

�� Option B → Bond value depends on future returns, not the paper's intrinsic value.
�� Option C → Inflation is not directly added to compute present value.
�� Option D → Statutory Liquidity Ratio has no role in discounting bond returns.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Recall the NCERT explanation of discounting future returns.

Final Logic:

Present Value = Today's investment that grows into future returns.

🧠 Memory Trick

PV = Today's Worth of Tomorrow's Money

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Present Value of Bonds

16 Arrange the occurrences leading to a liquidity trap:
1. Market rate of interest drops to its absolute lowest limit (r_min).
2. Nobody wishes to hold bonds as they fear capital losses.
3. Everyone expects the interest rate to rise in the future.
4. Additional money injected is used solely to satiate people's craving for money balances.

A 1, 2, 4, 3

B 2, 1, 3, 4

C 1, 3, 2, 4

D 3, 1, 4, 2

💡 Short Explanation

�� Interest rate falls to its minimum level. �� People expect future interest rates to rise. �� They avoid bonds and prefer cash. �� Extra money is absorbed as idle cash balances.

✅ Correct Answer Explanation

In a liquidity trap, the sequence is: Step 1: Market interest rate reaches its minimum limit (r_min). Step 3: People expect interest rates to rise in the future. Step 2: Since rising interest rates reduce bond prices, people avoid bonds fearing capital losses. Step 4: Any additional money supplied is simply held as cash rather than invested in bonds. Thus, the correct order is: 1 → 3 → 2 → 4 Hence, Option C is correct.

❓ Why Other Options Are Incorrect

�� Option A → Fear of capital loss occurs after expectations about future interest rates.
�� Option B → Bond avoidance cannot occur before the interest rate reaches its minimum.
�� Option D → Expectations arise after the economy reaches the minimum interest rate.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Arrange the events according to the NCERT explanation of the liquidity trap.

Final Logic:

Lowest Interest → Expect Rise → Avoid Bonds → Hold Cash.

🧠 Memory Trick

Low Rate → Rise Expected → Cash Preferred

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Liquidity Trap

17 Match the Following market adjustments for bonds:

List 1	List 2
1. Bond price rises above PV	a. Bond price is pushed up towards PV
2. Bond price falls below PV	b. Bond becomes less attractive, people sell it
3. Excess supply of bonds	c. Puts downward pressure on bond price back to PV
4. Competitive bidding for attractive bond	d. Seller is offering it below its PV

A 1-a, 2-b, 3-c, 4-d

B 1-c, 2-a, 3-b, 4-d

C 1-b, 2-d, 3-c, 4-a

D 1-d, 2-c, 3-a, 4-b

💡 Short Explanation

�� Overpriced bonds become unattractive. �� Underpriced bonds attract buyers. �� Market forces restore equilibrium price.

✅ Correct Answer Explanation

According to NCERT: Bond price above PV → Investors find it unattractive and sell it → 1 → b Bond price below PV → Seller offers it below its present value → 2 → d Excess supply of bonds → Downward pressure on price toward equilibrium → 3 → c Competitive bidding → Attractive bond prices are bid upward toward present value → 4 → a Thus, the correct matching is: 1 → b 2 → d 3 → c 4 → a Therefore, Option C is correct.

❓ Why Other Options Are Incorrect

�� Option A → Incorrectly matches overpriced bonds with rising prices.
�� Option B → Incorrectly links underpriced bonds with competitive bidding.
�� Option D → Reverses several equilibrium adjustments.

🎯 Strategy

Used

Option Grouping

Application:

Match each bond-market situation with its corresponding equilibrium adjustment.

Final Logic:

Market forces always push bond prices back toward present value.

🧠 Memory Trick

Above PV → Sell | Below PV → Buy

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Bond Pricing and Present Value

18 The present value calculation
PV = 10/(1 + 5/100) + 110/(1 + 5/100)²
yields approx Rs 109.29.
If the bond seller is offering this bond at a face value of Rs 100, what economic action follows?

A The bond is more attractive than a savings account, leading to competitive bidding that raises the price to its PV.

B The bond is less attractive, leading to an excess supply of the bond.

C The bond price will immediately fall to Rs 90.

D The central bank will step in to freeze the bond's maturity value.

💡 Short Explanation

�� Present value exceeds market price. �� Investors find the bond attractive. �� Demand increases until price reaches equilibrium.

✅ Correct Answer Explanation

The bond's calculated present value is approximately Rs 109.29, while it is being sold for only Rs 100. Since the bond is undervalued, investors can earn a higher return by purchasing it than by keeping money in a savings account. As more investors purchase the bond, competitive bidding pushes its market price upward toward its present value. Therefore, Option A is correct.

❓ Why Other Options Are Incorrect

�� Option B → The bond is attractive, not unattractive.
�� Option C → There is no reason for the price to fall further.
�� Option D → Bond pricing is determined by market forces, not direct central bank intervention.

🎯 Strategy

Used

Substitution

Application:

Compare the bond's present value with its selling price.

Final Logic:

PV > Price ⇒ Investors Buy ⇒ Price Rises.

🧠 Memory Trick

PV > Price = Buy Bond

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Present Value and Bond Valuation

📄 Passage

The demand for money is graphically represented with the rate of interest on the vertical axis and speculative demand on the horizontal axis. When the interest rate reaches r_max, speculative demand is zero. When the rate drops to r_min, the speculative demand curve becomes horizontal, indicating a liquidity trap where people will absorb any amount of newly injected money without buying bonds.

According to the passage, what does the horizontal axis of the described graph represent?

A The total money supply

B The speculative demand for money

C The general price level

D The rate of interest

💡 Short Explanation

�� Horizontal axis measures speculative money demand. �� Vertical axis measures the rate of interest. �� The graph explains liquidity preference.

✅ Correct Answer Explanation

The passage explicitly states that: Vertical axis → Rate of interest Horizontal axis → Speculative demand for money The graph illustrates how speculative demand varies with changes in the market rate of interest. Therefore, Option B is correct.

❓ Why Other Options Are Incorrect

�� Option A → Money supply is not plotted on the horizontal axis.
�� Option C → The general price level is unrelated to this graph.
�� Option D → The rate of interest is plotted on the vertical axis.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Identify the graph labels directly stated in the passage.

Final Logic:

Horizontal Axis = Speculative Demand.

🧠 Memory Trick

X-Axis = Money Demand

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Speculative Demand Curve

📄 Passage

Based on the passage, what shape does the speculative demand curve take at the liquidity trap point (r_min)?

A Vertically upward

B Upward sloping

C Downward sloping perfectly

D Horizontal (infinitely elastic)

💡 Short Explanation

�� Liquidity trap occurs at r_min. �� Speculative demand becomes perfectly elastic. �� The demand curve is horizontal.

✅ Correct Answer Explanation

At the liquidity trap, the market interest rate reaches r_min. People expect interest rates to rise in the future and therefore refuse to buy bonds. Instead, they hold any additional money supplied. Consequently, speculative demand becomes perfectly elastic, and the demand curve is horizontal. Hence, Option D is correct.

❓ Why Other Options Are Incorrect

�� Option A → The curve is not vertical.
�� Option B → Liquidity preference does not produce an upward-sloping demand curve.
�� Option C → The curve is not downward sloping at the liquidity trap.

🎯 Strategy

Used

Contextual/Tonal Matching

Application:

Use the description of the liquidity trap given in the passage.

Final Logic:

Liquidity Trap ⇒ Perfectly Elastic ⇒ Horizontal Curve.

🧠 Memory Trick

Liquidity Trap = Flat Line

📚 Class XII – Introductory Macroeconomics – Chapter: Money and Banking – Topic: Liquidity Trap and Speculative Demand Curve

CUET UG Economics Booster Test 3 - Demand for Money

Test Complete!

Answer Review