Download Chpt #16

Chapter 16
Determinants of
the Money Supply
16.1
© 2008 Pearson Education Canada
The Money Supply
Model
• Define money as currency plus chequable
deposits: M1
• The Bank of Canada can control the
monetary base better than it can control
reserves
• Link the money supply (M) to the monetary
base (MB) and let m be the money multiplier
M  m  MB
16.2
© 2008 Pearson Education Canada
Deriving the Money
Multiplier
• Assume the desired level of currency (C) and
excess reserves (ER) grows proportionately
with chequable deposits (D)
Then:
c = (C / D) = currency ratio
r = DR / C = desired reserve ratio
e = (ER / D) = excess reserve ratio
16.3
© 2008 Pearson Education Canada
Deriving the Money
Multiplier (Cont’d)
• The monetary base (MB) equals reserves (R) plus
currency (C)
MB = R + C = ( (r x D) + ER ) + C
• Shows the monetary base needed to support
existing amounts of r, D, ER and C
• An increase in MB going into C is not multiplied, but
an increase in MB going into D is multiplied via the
deposit multipler
16.4
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The Money Multiplier in Terms
of the Currency Ratio
• After several computations
M = (1+c)/(c+r) x MB
where m = (1+c)/(c+r)
M = m x MB
and MB = 1/m x MB
• While there is a multiple expansion of
deposits, there is no such expansion for
currency
16.5
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Factors that Determine
the Money Multiplier
• Changes in the currency ratio c
– The money multiplier and the money supply are
negatively related to c
• Changes in the desired reserve ratio r
– The money multiplier and the money supply are
negatively related to r
• Market Interest Rates
• Expected Deposit Outflows
16.6
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Additional Factors
• Open market operations are controlled
by the Bank of Canada
• The Bank of Canada cannot determine the
amount of borrowing by banks from the Bank
of Canada
16.7
© 2008 Pearson Education Canada
• Split the monetary base into two
components
MB = MBn + BR
therefore
M = m (MBn + BR)
MBn = nonborrowed monetary base
MB = monetary base
BR = borrowed reserves from the Bank of
Canada
16.8
© 2008 Pearson Education Canada
• Since M = m (MBn + BR)
• The money supply (M) is
- positively related to the non-borrowed
monetary base MBn
- positively related to the level of borrowed
reserves (BR) from the Bank of Canada
16.9
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Money Supply Response
16.10
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Deposits of Failed Commercial
Banks in U.S. in the Depression
16.11
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Desired Reserves and
Currency Ratios
16.12
© 2008 Pearson Education Canada
M1 and the Monetary Base
16.13
© 2008 Pearson Education Canada