Week 29: Money Supply and Monetary Policy
Money Supply and Monetary Policy Money Creation and the Role of Banking 🎯 Objective To understand how money is created within the economy, how the banking system operates, and how central banks use monetary policy to influence economic activity, inflation, and financial stability. 🔹 1. What is Money Supply? Money supply refers to the total amount of money available in an economy at a given time. Common measures include: M1 : Cash + checking deposits M2 : M1 + savings deposits + small time deposits M3 (if used): M2 + larger time deposits + institutional money 🔹 2. How Money is Created Money is created in two primary ways: a. Central Bank Money Creation The central bank (e.g., Federal Reserve, ECB) creates: Physical currency Bank reserves (the money commercial banks hold at the central bank) This is also called high-powered money or base money . b. Commercial Bank Money Creation (Fractional Reserve Banking) Money is mostly created by...