<p>Higher income is not the same as having more money in your pocket since the income is a real income which can increase even with amount of money in your pocket being exactly the same as before.</p>
<p>Next money demand increases because, at the higher level of income, people will want to spend more since consumption is increasing function of income and thus people will <em>want to</em> hold more money to support this consumption at any interest rate.</p>
<p>You can see this visualized at a graph below that I took from Melvin &amp; Norrbin 2017. Note even when money demand increases because of increase in <em>real</em> income <span class="math-container">$Y$</span> (i.e. <span class="math-container">$M^d$</span> shifts to <span class="math-container">$M^{d'}$</span>) the total amount of money does not have to change like in the picture below, but it could if <span class="math-container">$M^S$</span> would be less than perfectly inelastic.</p>
<p><a href="https://i.sstatic.net/ueQez.jpg" rel="nofollow noreferrer"><img src="https://i.sstatic.net/ueQez.jpg" alt="enter image description here" /></a></p>

CC BY-SA 4.0
2022-12-15T10:04:15.823Z
I find this conceptually so confusing. Income increases in real terms (e.g. due to deflation or an inflation beating payrise).  But I have what I have in my bank account and maybe now I'm wealthier I'm going to spend more of that money (MPC rises with income). But still that money is in my bank account (electronically). The bank has my income as a liability on its balance sheet. I can spend that money I haven't demanded a higher quantity of money,  What am I doing wrong here?
Studi
CC BY-SA 4.0
2022-12-15T11:28:14.227Z
@Studi 1. higher income does not mean you have more money on your bank account. Again we are talking about real income. 2. MPC **declines** with income. Rich people have lower MPC than poor people. Consumption does increase with income but not MPC. 3. A person individual money demand is the amount of money they want to hold at some period of time at a particular interest rate
1muflon1
CC BY-SA 4.0
2022-12-16T11:09:44.767Z
With regard to MPC. I've managed to write completely the opposite of what I want to say. My apologies.
Studi
CC BY-SA 4.0
2022-12-16T11:29:02.070Z
Back to the "demand for money". In my first comment I was trying to address an increased real income (i.e. through deflation or an inflation beating payrise). Either people get paid more or prices fall to make real income higher They have a balance in their bank following this. If that money shifts between their bank account and the shop where they bought something there hasn't been any money "demanded".
Studi
CC BY-SA 4.0
2022-12-16T14:53:18.500Z
@Studi demand in economics is the relationship between price and quantity, for example apple demand is just the relationship between the price of an apple and quantity of apples that person would want to have at that price (for any possible price from lowest possible price to highest possible price). Demand does not represent people going to some place and literally saying "I demand this or that"
1muflon1
CC BY-SA 4.0
2023-02-26T13:55:55.587Z
OK. See what you mean there. I was certainly mixing the "this is where my X comes from" with the formal definition. 

But no matter how many times I read this thread, read online resources I cannot understand how increased income leads to a demand for more money. I think I'm going to have to leave it there. I've reached the limit of my understanding of this topic. I shall nod knowingly whenever I hear it in the future perhaps even regurgitate it, in an attempt to sound like I know what I'm talking about, but deep inside I shall just remain perplexed. Thanks for your patience.
Studi
CC BY-SA 4.0
2023-02-26T15:26:21.347Z
@Studi the reason why it leads to higher demand for money is that when peoples  real income is larger they will increase their consumption. Suppose you always earn 1000e but prices of everything in store, literally everything foods electronics etc, drops by half. Will you still buy the same amount of food electronics etc? Obviously you will buy more! That means you need to hold higher cash balance. Previously you would save more of your income in bonds or stocks or whatnot which is all not part of demand for money now you will do less of that and spend more which is part of demand for money
1muflon1
CC BY-SA 4.0
2022-12-21T15:07:48.070Z
I get what demand is. I understand that if people's income goes up, at any price they will demand more apples (they can afford them).  But I don't see how if people have more income, demand for money at any price (i.e. real interest rate) increases. "People have higher incomes they demand more money (because they can afford more money - ?)". If anything the demand for money should fall. People have more money therefore people don't have to go to the money market to get loans. 
I'm sorry this must be infuriating for you.
Studi
CC BY-SA 4.0
2022-12-21T23:05:23.173Z
@Studi people will demand more money because they will spend more, and modern economy does not rely on barter
1muflon1
CC BY-SA 4.0
2023-01-17T15:03:47.947Z
Income is an economic actor's money supply isn't it? Hold on are we saying this is analogous to Say's law? Supply creates it's own demand.
Studi
CC BY-SA 4.0
2023-01-17T17:47:39.847Z
@Studi no income is not person's money supply, those are two different variables if we talk about real income as defined in economics (and which is what Mankiw talks about). Even if we talk about nominal income, its not money supply because supply has to be on some market, when you get something from someone thats not your supply of thing as understood in economics (you seem to mix the economic definition of supply with common english usage of the word)
1muflon1
CC BY-SA 4.0
2022-12-14T09:43:13.143Z
2022-12-14T09:43:13.143Z
1muflon1
<p>I am currently looking through Mankiw &quot;Economics&quot; (5th edtion).</p>
<p>I have come across this statement on page 664. When talking about lowering taxes to stimulate the economy</p>
<p>[lowering taxes, increases disposable income and...] <strong>&quot;Increased incomes lead to higher money demand&quot;.</strong> [which tends to lead to higher interest rates and thus crowding out investment and offsetting the effects of lower taxes]</p>
<p>I am not sure of the logic behind this statement.<br />
It feels like saying &quot;If I give someone more apples, they will demand more apples&quot;.
OK I can see the argument that the more we have the more we desire. But I have a feeling that that's not the line of argument here - not very &quot;Mankiwian&quot;.</p>
<p>Can anyone explain why having more &quot;money in your pocket&quot; increases demand for money?</p>

<macroeconomics><fiscal-policy>
Crowding out effect: "High income leads to higher money demand"
Studi
# Crowding out effect: "High income leads to higher money demand"

(Asked by: username_0 on 2022-12-14)

I am currently looking through Mankiw "Economics" (5th edtion).

I have come across this statement on page 664. When talking about lowering taxes to stimulate the economy

[lowering taxes, increases disposable income and...] **"Increased incomes lead to higher money demand".** [which tends to lead to higher interest rates and thus crowding out investment and offsetting the effects of lower taxes]

I am not sure of the logic behind this statement.  
It feels like saying "If I give someone more apples, they will demand more apples".
OK I can see the argument that the more we have the more we desire. But I have a feeling that that's not the line of argument here - not very "Mankiwian".

Can anyone explain why having more "money in your pocket" increases demand for money?

**Tags:** macroeconomics, fiscal-policy


---

## 1 answers

### Answer by username_1 on 2022-12-14. Score: 1

Higher income is not the same as having more money in your pocket since the income is a real income which can increase even with amount of money in your pocket being exactly the same as before.

Next money demand increases because, at the higher level of income, people will want to spend more since consumption is increasing function of income and thus people will *want to* hold more money to support this consumption at any interest rate.

You can see this visualized at a graph below that I took from Melvin & Norrbin 2017. Note even when money demand increases because of increase in *real* income $Y$ (i.e. $M^d$ shifts to $M^{d'}$) the total amount of money does not have to change like in the picture below, but it could if $M^S$ would be less than perfectly inelastic.

[![enter image description here](https://i.sstatic.net/ueQez.jpg)](https://i.sstatic.net/ueQez.jpg)

> **Comments:**
> **username_0**: I find this conceptually so confusing. Income increases in real terms (e.g. due to deflation or an inflation beating payrise).  But I have what I have in my bank account and maybe now I'm wealthier I'm going to spend more of that money (MPC rises with income). But still that money is in my bank account (electronically). The bank has my income as a liability on its balance sheet. I can spend that money I haven't demanded a higher quantity of money,  What am I doing wrong here?  
> **username_1**: @username_0 1. higher income does not mean you have more money on your bank account. Again we are talking about real income. 2. MPC **declines** with income. Rich people have lower MPC than poor people. Consumption does increase with income but not MPC. 3. A person individual money demand is the amount of money they want to hold at some period of time at a particular interest rate  
> **username_0**: With regard to MPC. I've managed to write completely the opposite of what I want to say. My apologies.  
> **username_0**: Back to the "demand for money". In my first comment I was trying to address an increased real income (i.e. through deflation or an inflation beating payrise). Either people get paid more or prices fall to make real income higher They have a balance in their bank following this. If that money shifts between their bank account and the shop where they bought something there hasn't been any money "demanded".  
> **username_1**: @username_0 demand in economics is the relationship between price and quantity, for example apple demand is just the relationship between the price of an apple and quantity of apples that person would want to have at that price (for any possible price from lowest possible price to highest possible price). Demand does not represent people going to some place and literally saying "I demand this or that"  
> **username_0**: I get what demand is. I understand that if people's income goes up, at any price they will demand more apples (they can afford them).  But I don't see how if people have more income, demand for money at any price (i.e. real interest rate) increases. "People have higher incomes they demand more money (because they can afford more money - ?)". If anything the demand for money should fall. People have more money therefore people don't have to go to the money market to get loans.  I'm sorry this must be infuriating for you.  
> **username_1**: @username_0 people will demand more money because they will spend more, and modern economy does not rely on barter  
> **username_0**: Income is an economic actor's money supply isn't it? Hold on are we saying this is analogous to Say's law? Supply creates it's own demand.  
> **username_1**: @username_0 no income is not person's money supply, those are two different variables if we talk about real income as defined in economics (and which is what Mankiw talks about). Even if we talk about nominal income, its not money supply because supply has to be on some market, when you get something from someone thats not your supply of thing as understood in economics (you seem to mix the economic definition of supply with common english usage of the word)  
> **username_0**: OK. See what you mean there. I was certainly mixing the "this is where my X comes from" with the formal definition.   But no matter how many times I read this thread, read online resources I cannot understand how increased income leads to a demand for more money. I think I'm going to have to leave it there. I've reached the limit of my understanding of this topic. I shall nod knowingly whenever I hear it in the future perhaps even regurgitate it, in an attempt to sound like I know what I'm talking about, but deep inside I shall just remain perplexed. Thanks for your patience.  
> **username_1**: @username_0 the reason why it leads to higher demand for money is that when peoples  real income is larger they will increase their consumption. Suppose you always earn 1000e but prices of everything in store, literally everything foods electronics etc, drops by half. Will you still buy the same amount of food electronics etc? Obviously you will buy more! That means you need to hold higher cash balance. Previously you would save more of your income in bonds or stocks or whatnot which is all not part of demand for money now you will do less of that and spend more which is part of demand for money  

---

