Download Module1.3

Money Supply Measures
Monetary Base = Currency + depository institution
balances at the Fed
Currency = coin + paper money
Money supply is total amount of money in economy.
Two money supply measures are
(CDs)
money aggregates
Monetary base and money supply are not same thing
(definitions are different).
Monetary Base Graph
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M1 Graph
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Money Supply Comments
• Money supply is believed to be important.
• While Fed can completely control the monetary base,
it is M1 and M2 that more directly control the real
sector.
• But Fed doesn’t have full control over M1 and M2.
• Note that most of the money supply aggregates that
comprise M1 and M2 are determined by private
decisions which the Fed can’t control. Thus Fed only
has monetary base to influence M1 and M2.
• In other words, the Fed, via the monetary base, can
only imprecisely control M1 and M2.
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Six Goals of Monetary Policy
Set by the Humphrey-Hawkins Act of 1978
• Full employment
• Economic growth
• Price index stability
• Interest rate stability
• Stable financial system
• Stable foreign exchange markets
Monetary policy first impacts the financial sector. Then
financial sector affects the real sector. Two schools of
thought on how this works.
9/15
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Actual Fed Funds Rates 1955-present
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Fed Funds Rates 2004-2008
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Monetarist Economists
• Monetarists believe
–
key explanatory variable is the money supply
–
people will buy more if feel they have “more
money,” and spend less if feel they have “less
money.”
–
idea is to use monetary policy to influence the
money supply.
–
in this way, adding reserves should promote
economic growth, reducing reserves should slow
the economy.
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Keynesian Economists
• Keynesians believe
– key explanatory variable is the interest rate
– John
Maynard Keynes was influential British
economist of 1930s.
– money
supply does not make that much difference
– believe
economic growth is stimulated by falling
interest rates, and slowed by rising rates
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Repos & Reverse Repos on Fed Bal Sheet
Used by Fed for temporary adjustments to money supply.
Repurchase agreements. Securities sold by dealers under
agreement to repurchase on a certain date at a certain
price. (adds reserve balances to the banking system)
Reverse repurchase agreements. Securities purchased by
dealers under agreement to resell back on a certain date
at a certain price. (drains reserve balances from the
banking system)
repo -- economic equivalent of Fed making a collateralized loan
reverse repo -- economic equivalent of Fed involved in
collateralized borrowing
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Repos & Reverse Repos on Fed Bal Sheet
Repurchase agreement (dealer borrows from Fed)
Fed buys securities from dealer for X
Dealer repurchases securities from Fed for X+interest
Reverse repurchase agreement (dealer loan to Fed)
Fed sells securities to dealer for X
Fed repurchases securities from dealer for X+interest
Repos used all over the financial world. Need to study
repos hard.
It is called a repo or reverse repo depending upon how it
looks to a dealer.
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Things for Sure To Know for Exam
Night Exam, Tues Sept 20, MLC, 7pm
Know everything on all slides of Modules 1.1, 1.2 and
1.3 (up to this slide).
Definitions of monetary base and M1
Know: 11 types of financial intermediaries
5 services offered by intermediaries
5 risks faced by financial institutions
5 purposes of a central bank
6 goals of monetary policy
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