Skip to main content

Money Supply

Monetary based model of money supply through the principle of money multiplier (m).

Money multiplier (m) is the ratio of the aggregate stock of money available in the economy (M) to the size of high powered money (H).
It shows that the aggregate stock of money supply available in the economy is the product of the value of money multiplier times the size of high powered money.
There are many money multiplier models developed by different economists at different time period like:
-          General model (IMF model)
-          Cagan model
-          Friedman model
-          Luckett model
-          Pesek and saving model
-          Jerry & Jordan model and so on…
Out of them Jerry & Jordan model is taken as the best model of money multiplier that has 7 equations in hand as given as:
M = C + DD + OD ---------------------- equation (1)
H = C + R + OD ------------------------- equation (2)
R = r + D --------------------------------- equation (3)
D = DD + TD ---------------------------- equation (4)
K = C/DD or C = K.DD ---------------- equation (5)
t = TD/DD or TD = t.DD ------------- equation (6)
d = OD/DD or OD = d.DD ----------- equation (7)
Where,
M = aggregate money supply in economy
C = currency held by people in their hands/pockets
DD = demand deposits of public with BFIs (Banking and Financial Institutions)
OD = other deposits of public with central bank (government, government enterprises, foreign offices)
H = high powered money
R = total cash reserves of BFIs
r = cash reserve ratio in weightage average
D = total deposits of public with BFIs
TD = time deposits of public with BFIs
K = currency ratio
t = time deposit ratio
d = other deposit ratio
Now,
Substituting the equation (6) into equation (4) we get,
D = DD + t.DD
Or, D = DD (1 + t) --------------------- equation (8)
Substituting the equation (8) into equation (9) we get,
R = r.DD (1 + t) ----------------------- equation (9)
Substituting the equation (5), (7) and (9) into equation (2) we get,
H = K.DD + r.DD (1 + t) + d.DD
Or, H = DD {K + r (1 + t) +d}
Therefore, DD = H/ {K + r (1 + t) +d} --------------------- equation (10)
Substituting the equation (5) and (7) into (1) we get,
M = K.DD + DD + d.DD
Or, M = DD {K + 1 + d} ----------------------- equation (11)
At last, substituting the equation (10) into equation (11) we get,

Where, 
which is known as the money multiplier.
Further, it shows that M is the positive function of both the value of m and H. hence, as the value of m or H increases, the value of M also increases and vice versa. Therefore the seen or visible variables in money multiplier models like K, d, r, t and H are known as the proximate determinants of money supply.
Here, the value of m is negatively affected by the value of K, t, d and r. Besides, the value of H, r, K, t and d are affected by many unseen factors which are known as ultimate determinants of money supply like:
-          H is affected by
o   NFAR (Net foreign asset reserve of the central bank)
o   NCG
o   CGEs
o   BFIs
o   CPS especially the employees of central bank
o   NML (Non-monetary liability)
o   OPAs used by the central bank
-          r is affected by
o   Availability of liquidity in financial market
o   Condition of money and capital markets
o   Effectiveness of monetary policy
-          K, t and d are affected by
o   Level of income and frequency of income received by people
o   Consumption and saving behaviors of people
o   Banking behavior of people
o   Development of banking system and expansion of banks
o   Inflation rate
o   Interest rate on deposits at banks
---------------------
Labels:

Popular posts from this blog

A book review “ Karodau Kasturi”

As being a Nepali, I am so very fascinated with the Nepali literature. So, this year (2075) I made a New Year Resolution to read at least a book (Nepali) every month. I finished reading Khabuj by Benyamin ( translated by Dinesh Kafle), Seto Dharti by Amar Neupani, China Harayeko Manche and Hari Bahadur by Haribansa Acharya, Sallipir,Yaar,Lu and Chocolate by Nayan Raj Pandey, Juneli by Brajesh, Juino by Binita Baral, Summer Love, Monsoon and Katha ki Patra by Subin Bhattari, Karnali Blues and Firfire by Buddhi Sagar, Maha ko Ma by Madan Krishna Shrestha and so on. Last weekend I finished reading “Karodau Kasturi” by Madan Puraskar winning Author ‘Amar Neupane’. Though this book was with me from past few years, I could not manage time to read this one. So, last Friday I started reading this book. Karodau Kasturi is based on actor/comedian Haribansa Acharya. This novel is all of imagination, not the true story though, but reflects the truth of the society. The name of no...
Read more

Concept of Temperature: Short Questions and Numerical

Heat and temperature Short questions: 1.        Distinguish between heat and temperature? 2.        Distinguish between heat and work? 3.        When two bodies A and B are brought in contact, heat flows from body B to A. Which is at higher temperature? 4.        Why is mercury used commonly  as a thermometric substance? Give two reasons. 5.        What is thermal equilibrium? Can two object not in contact ever be in thermal equillibrium? 6.        State Zeroth law of thermodynamics? Define temperature on the basis of Zeroth law  of thermodynamics? 7.        Why two objects in thermal contact come in thermal equilibrium? 8.        Which physical quantity determines the direction of flow of heat? 9.    ...
Read more

Life Cycle Hypothesis

This theory was developed by Franca Modigliani, Nobel Laureate of 1985, Richard Brumberg and Albert Ando in 1950s and 1960s. It is called MBA hypothesis. According to this theory, consumption is a function of the lifetime expected income of the person. The consumption depends on the resources available to the person, the rate of return to the capital, the spending plan and the age at which the plan is made. It depends on:  i. Resources  ii. Spending plan  iii. Rate of return on capital  iv. The age at which the plan is made  According to Modigliani the point of departure of the life cycle model is the hypothesis that consumption and saving decision of household at each point of time reflects more or less conscious attempt to achieve the preferred distribution of consumption over the life cycle. Subject to the constraint imposed by the resources occurring to the household over...
Read more