relation from money supply to interest rates, and a negative causal relation from interest rates to stock prices. In this paper, we argue against a stable causal. As the money supply increases in relation to the demand for money, then interest If demand for money increases or the supply decreases then interest rates rise . trade shares in high-end art that has consistently outperformed the S&P The purpose of this study is to examine the statistical relationship between the supply of money and stock price levels and between the level of interest rates and.
When there is a lot of money around, it becomes cheaper to borrow it.
Macro Notes 3: Money Demand
When the money supply is low, not many individuals and institutions will have funds that they can lend out. The borrowers must therefore offer higher interest rates to be able to borrow. Interest rates are often referred to as the cost of money.
Interest Rates and Stocks An increase in money supply and the resulting drop in interest rates makes stocks a more attractive investment.
When investors can only obtain a low level of return by lending money, whether to a bank or a corporation or by purchasing Treasury bills, they tend to shift more money to stocks.
This is often referred to as chasing yield. But if bank deposits yield 2 percent or less, the investor will look for riskier, yet potentially more profitable alternatives, such as stocks. Increased Demand An additional reason stocks do well when the money supply is high is the increase in general demand in the economy.
When the borrowing rates are low, mortgage rates also decline, making homes more affordable and increasing demand for such items as TV sets, washing machines and so on.
Car sales also go up when the financing rates drop. The lower rates partially trickle down to interest rates charged on credit card purchases, and consumers purchase more of essentially every imaginable good and service.
The result is an increase in sales for most companies, which increases profits and usually results in higher stock prices. Let's think of a couple. Let's say that the central bank of our country, in the United States, that would be the Federal Reserve, the central bank prints more money.
Then decides to lend out that money. It is disturbed when central banks print money. The way that it enters into circulation in most countries is that the central bank then goes and essentially lends that money. The way it's done in the US Fed, most part they go out and buy government securities which is essentially lending money to the Federal Government. They do that because that's considered to be the safest investment. They go out there and they lend money.
If this is our original supply curve.
The Relationship Between Money Supply & Stock Prices
If this is our original supply curve, but now your Federal Central Bank is printing more money and lending it out. What is going to happen over here? Your supply curve is going to shift to the right at any given price, at any given interest rate.
Your going to have a larger quantity of money being available. It might look something like Assuming that's the only change that happens you see its effect. Your new equilibrium price of money, the rent on money, or the interest rate on money is now lower.
That's why when the Federal Reserves say I want to lower interest rates, they do so by printing money.
Money supply and demand impacting interest rates
They print that money, and they lend it out in the market. That essentially has the effect of lowering interest rates.
Let's think about another situation. Let's say this is the Fed prints and lends money. Their lending the money by buying government bonds. When you buy a government bond, your essentially lending that money to the Federal Government.
I've done other videos on that where we go into a little bit more detail on that. Let's think of another situation. Let's think about consumer savings go down. One interesting thing about savings, savings and investment are two opposite sides of the same coin.
When you save money You have the whole financial system right over here. This is the finincial system. That money goes out and is lent to other people.
For the most part, hopefully, that money when it's lent is used to invest in someway. If consumer savings goes down that means the supply of money will be shifted to the left.
At any given price and any given interest rate their be less money available. In this situation our supply curve is shifting to the left.
That would increase interest rates. Then you could even make an argument that if consumers savings is going down consumers are going to borrow less as well. You could argue that maybe demand would go up as well. Your demand could go up and that would make the equilibrium interest rate even even higher.
The Relationship Between Money Supply & Stock Prices | Finance - Zacks
Let's do another scenario. Let's say that the Federal Government in an effort to The government decides to borrow a lot more money. The government is essentially going expand it's deficit. The government is going to borrow money. Here our supply isn't changing.