Money Supply
Quick Definition
The total amount of money available in an economy at a given time, measured in categories like M1 (cash and checking) and M2 (M1 plus savings and time deposits).
Key Takeaways
- Measured in categories: M0 (narrowest) through M2 (broadest commonly used)
- Central banks control money supply through monetary policy tools
- Rapid money supply growth can lead to inflation; contraction can cause deflation
- M2 is the most widely referenced measure of money supply
- The relationship between money supply and inflation is central to monetarist theory
What Is Money Supply?
Money supply refers to the total stock of money circulating in an economy, measured in several categories of increasing breadth. M0 (monetary base) includes physical currency and bank reserves at the central bank. M1 includes M0 plus demand deposits, checking accounts, and other liquid deposits. M2 includes M1 plus savings deposits, small time deposits, and money market funds. M3 (discontinued by the Fed in 2006) added large time deposits and institutional money market funds. Central banks influence money supply through open market operations, reserve requirements, and interest rates. Changes in money supply affect inflation, interest rates, and economic growth, forming the basis of monetarist economic theory.
Money Supply Example
- 1The Fed's quantitative easing program dramatically expanded the M2 money supply from $15.4 trillion in February 2020 to over $21 trillion by 2022.
- 2Monetarist economists argue that excessive money supply growth inevitably leads to inflation, following Milton Friedman's famous dictum.
- 3An investor tracked M2 money supply growth as a leading indicator for potential inflationary pressures in the economy.
Related Terms
Monetary Policy
Actions by a central bank to manage the money supply and interest rates to achieve macroeconomic objectives like stable prices and full employment.
Quantitative Easing (QE)
An unconventional monetary policy where a central bank purchases government bonds and other securities to increase money supply and lower long-term interest rates.
Federal Reserve (The Fed)
The central banking system of the United States, responsible for monetary policy, bank regulation, and financial stability.
Inflation
The rate at which the general level of prices for goods and services rises over time, reducing the purchasing power of money.
Deflation
A sustained decrease in the general price level of goods and services, resulting in increasing purchasing power of money.
GDP (Gross Domestic Product)
The total monetary value of all finished goods and services produced within a country's borders in a specific time period.
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