In the Baumol-Tobin model, as interest rates increase ________.
A) the amount of cash held for transaction purposes falls and velocity and interest rates are positively correlated
B) the amount of cash held for transaction purposes falls and velocity and interest rates are negatively correlated
C) the amount of cash held for transaction purposes rises and velocity and interest rates are positively correlated
D) the amount of cash held for transaction purposes rises and velocity and interest rates are negatively correlated

Question

Quizplus · Accepted Answer

The Baumol-Tobin model suggests that as interest rates increase, individuals will choose to hold less cash for transaction purposes because the opportunity cost of holding cash (i.e., the foregone interest) is higher. This leads to a higher velocity of money, indicating a positive correlation between velocity and interest rates.

In the Baumol-Tobin Model, as Interest Rates Increase ________