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Cc-6 (High Powered Money) - 2
Cc-6 (High Powered Money) - 2
MONEY SUPPLY
MONEY IS A FINANCIAL ASSET THAT IS UNIVERSALLY ACCEPTED AS A MEANS OF PAYMENT IN TRANSACTIONS
AND SETTLEMENT OF DEBT. IT REPRESENTS GENERAL PURCHASING POWER IN THE MOST LIQUID FORM, IN THE
SENSE THAT IT DOES NOT NEED TO BE CONVERTED INTO SOMETHING ELSE BEFORE IT CAN BE USED FOR
TRANSACTIONS.
THE MOST IMPORTANT FUNCTION OF MONEY IS TO ACT AS A MEANS OF PAYMENT. WITHOUT MONEY,
EXCHANGE WILL HAVE TO BE IN THE EXTREMELY INCONVENIENT AND LIMITED FORM OF BARTER-DIRECT
EXCHANGE OF GOODS AND SERVICES FOR OTHER GOODS AND SERVICES.
MONEY ALSO ACTS AS A UNIT OF ACCOUNT (VALUES OF GOODS AND SERVICES ARE EXPRESSED IN UNITS OF
MONEY) AND A STORE OF VALUE (WEALTH CAN BE HELD N THE FORM OF MONEY FOR FUTURE USE).
ALL THESE FUNCTIONS, HOWEVER, ARE DERIVED FROM THE PRIMARY ONE ,MEDIUM OF EXCHANGE.
IN A MODERN ECONOMY, MONEY USUALLY CONSISTS OF COINS, CURRENCY NOTES, AND CURRENT/ SAVINGS
ACCOUNT (DEMAND) DEPOSITS OF COMMERCIAL BANKS. THE LAST ITEM IS INCLUDED BECAUSE CHEQUES
DRAWN ON SUCH DEPOSITS ARE READILY ACCEPTED IN THE SETTLEMENT OF TRANSACTIONS AND DEBT. DEMAND
DEPOSITS ARE DEPOSITS PAYABLE ON DEMAND THROUGH CHEQUES OR OTHERWISE. A DEPOSITS HAVE A FIXED
TERM TO MATURITY AND CANNOT BE WITHDRAWN ON DEMAND. THEY ARE CALLED DEPOSITS OR TERM
DEPOSITS.
MEASURES OF MONEY SUPPLY (Monetary Aggregates)
Supply of money is a stock variable whose value can be measured on a particular date. The
RBI publishes figures for four measures of money supply. Also known as monetary aggregates,
they are
M1 = CU +D;
M2 = M1 + savings deposits with post office savings banks;
M3 = M1 +net time deposits of banks (interbank deposits are netted out); and
M4= M3+ total deposits with the post office savings organizations.
In the above definitions, CU = currency (coins plus notes) held by the public, D = demand
deposits of the public in banks (interbank deposits are not included).
Ml is called narrow money, M3 is also known as broad money or aggregate monetary
resources
(AMR). M2 and M4 have been devised to accommodate post office deposits.
HIGH POWERED MONEY
▷ It is the total liability of the Monetary authority. It is also called Monetary Base or Money Base. It is denoted with 'H'.
▷ It consists of:
1) Currency (notes and coins) in circulation with the public and vault cash of commercial banks .
2) Deposits held by commercial banks and the Government with the RBI (R)
H= Currency(CU)+Reserves(R)
The part of currency held by the public forms a part of money supply.
The currency in bank vaults and banks’ deposits at the RBI are used as reserves backing individual and business
deposits at bank. The term "high powered' refers to the fact that an increase in base money by Rs. 1 creates, through
the money multiplier, an increase of more than Rs. 1 in money supply.
Since the RBI's assets and liabilities must be equal by balance sheet identity, it also must be true that H= FA +DC,
where FA is the Central Bank's stock of foreign assets (including gold) and DC is domestic credit. This is an alternative
(asset side) definition of the monetary base or high powered money.
H= CU+R= FA +DC
The RBI has direct control over High powered money, H. We will see how the money supply(M) is linked with Money
multiplier, mm.
DETERMINANTS OF MONEY SUPPLY
WE TURN NOW TO THE IMPORTANT TWO DETERMINANTS OF MONEY SUPPLY :-
THE CURRENCY-DEPOSIT RATIO (α:) The payment habits of the
public determine how much currency is held relative to deposits.
The currency-deposit ratio is affected by the cost and
convenience of obtaining cash; for instance, if there is a cash
machine nearby, individuals will on average carry less cash with
them because the costs of running out are lower. The currency-
deposit ratio has a strong seasonal pattern, being highest
around festive seasons.