If the supply of money is reduced, the most likely consequence among the options provided is:
- Bond prices will fall.
Here’s the reasoning:
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The demand for money will increase: This statement is not accurate in this context. A reduction in the supply of money typically leads to an increase in interest rates, which may reduce the demand for money.
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The interest rates will fall: This is incorrect. A reduction in the supply of money generally leads to an increase in interest rates because money becomes scarcer.
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Bond prices will fall: This is true. When interest rates rise (due to a reduction in the money supply), existing bonds with lower interest rates become less attractive, leading to a decrease in their prices.
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Investment spending will increase: This is unlikely. Higher interest rates typically discourage investment spending, as borrowing costs increase.
Thus, the most accurate answer is that bond prices will fall.