Two Types of Assets - Key Concept

To simplify the study of money demand, we assume the people have a choice between holding bonds or holding money. People choose how they want to divide their wealth between bonds and money. Bonds earn an interest rate, money does not. Although people may prefer to hold all their wealth in interest-bearing assets such as bonds, people cannot use bonds to buy goods and services. People need money to buy goods and services. There is a trade-off between holding bonds that earn a greater return, and holding money which pays no return, but can be used for transaction purposes.