Final answer:
The transaction demand for money is primarily determined by income levels, while the asset demand for money is influenced by interest rates. Together, these demands establish how money is used for daily transactions and held as a financial asset.
Step-by-step explanation:
The transaction demand for money refers to the need for money for the purpose of daily transactions. People hold money to buy goods and services, pay bills, and for other transactions that facilitate their day-to-day economic activities. The primary determinant of transaction demand is the level of income; as income increases, so too does the need for transaction money.
Conversely, the asset demand for money is motivated by the desire to hold money as a financial asset. Here, money is viewed as a store of value over time, essentially safeguarding wealth. The primary determinant of asset demand is the interest rate; as interest rates increase, the opportunity cost of holding money increases, hence asset demand for money falls, and vice versa.
Both components are essential to understanding how individuals and businesses allocate their financial resources, balancing needs between immediate transactions and long-term savings or investments.