Question

Given below are two statements, one is labelled as Assertion (A) and other one labelled as Reason (R).
Assertion (A): According to Keynes, an individual's aggregate demand to hold money is composed of Transaction Demand, Precautionary Demand, and Speculative Demand.
Reason (R): The Speculative Demand for money is a direct and positive function of the level of money income. In light of the above statements, choose the correct answer from the options given below:

• A. Both (A) and (R) are true and (R) is the correct explanation of (A).
• B. Both (A) and (R) are true but (R) is NOT the correct explanation of (A).
• C. (A) is true but (R) is false.
• D. (A) is false but (R) is true.

Hint:

Keynes’ money demand: Transaction and Precautionary (income-driven), Speculative (interest rate-driven).

Answer 1

The Correct Option is C

Assertion (A) is true: According to John Maynard Keynes’ liquidity preference theory, the demand for money consists of three components:
- {Transaction Demand: Money held for everyday purchases and payments, related to income levels.
- {Precautionary Demand: Money held for unforeseen expenses, also linked to income.
- {Speculative Demand: Money held to take advantage of future investment opportunities, influenced by interest rates.
Reason (R) is false: Speculative demand for money is primarily a function of interest rates, not income. When interest rates are low, people hold more money speculating that rates will rise (and bond prices fall), making it advantageous to hold cash. Conversely, high interest rates reduce speculative demand. While transaction and precautionary demands are positively related to income, speculative demand is not, making (R) incorrect. Since (R) does not explain (A), option (3) is correct.

Answer 2

Separating the three motives by their driving variable:
Keynes' liquidity preference theory lists three motives for holding money: transactions and precautionary demand, both driven mainly by the level of income (people hold more cash day-to-day and for emergencies as their income rises), and speculative demand, driven mainly by the rate of interest. This three-part breakdown itself is accurate, so Assertion (A) is true. Reason (R), however, assigns speculative demand to income rather than interest rate. Under Keynes' theory, when interest rates are low, bond prices are high, so people expect rates to rise (and bond prices to fall) and prefer holding cash speculatively; when interest rates are high, they prefer bonds over idle cash. This is an inverse relationship with the interest rate, not a "direct and positive function of money income" as (R) claims. Because (R) misattributes the driving variable, it is false, leaving (A) true and (R) false, which is option (3).