Definition
The term money supply refers to a group of assets used to make payments or held as short-term investments. Increasing or decreasing the money supply is one of the tools a central bank can use to stimulate or slow down an economy.
Explanation
Also referred to as the money stock, the money supply are the assets available to an economy at a given point in time. Central banks will control the money supply when trying to achieve their monetary policy objective. Increasing the money supply involves the purchase of Treasury securities from banks, thereby increasing the amount of money in circulation, lowering interest rates, and stimulating an economy. Conversely, a central bank can shrink the money supply by selling Treasury securities. This removes currency in circulation, increases interest rates, and will slow the growth of an economy. The buying and selling of Treasuries is accomplished through Open Market Operations.
Money supply data are published by central banks, since it is a measure oftentimes analyzed by economists. In the United States, the Federal Reserve publishes three measures of the money supply:
Monetary Base: this is the total of all currency in circulation plus reserve balances, which are deposits by banks and other depository institutions held at the Federal Reserve.
M1: this is the total of all currency held by the public as well as transaction deposits (demand deposits such as a checking account) at depository institutions, which are financial institutions such as commercial banks, credit unions, savings banks, and savings and loans that depend on deposits from the public to conduct their business.
M2: this includes M1 plus savings deposits, time deposits under $100,000 (such as certificates of deposit), and retail money market funds. M2 is considered less liquid than M1.
Generally, M2 will be three to five times larger than M1.
Related Terms
Federal Open Market Committee, Board of Governors, Federal Reserve System, Federal Reserve Bank, Federal Reserve Funds
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