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Chapter 16: Determinants of the Money Supply
Money Supply Model
Money Supply: M1 = m *MB
Req. Reserves: RR = rD *D
Reserves: R = RR + ER = (rD *D) + ER
Adding C to both sides
R + C = MB = (rD *D) + ER + C
Tells us amount of MB needed to support D+ ER+C
MB = (rD*D) +({ER/D}*D )+ ({C/D}*D)
= (rD + {ER/D} + {C/D})*´ D
Solve for D: Demand-deposit model:
D = [1/(rD + {ER/D} + {C/D})]*MB
Money Supply Model:
M = D + C = D + ({C/D}*D ) = (1 + {C/D})*D
M = [(1 + {C/D})/(rD + {ER/D} + {C/D})]*MB
where money multiplier m = (1 + {C/D})/(rD + {ER/D} + {C/D})
m < 1/rD because no multiple expansion for currency
Full Model: M = m ´ (MBn + DL)
Determinants of Money Multiplier
Excess Reserve ratio ER/D
Currency ratio C/D
Reserve requirement ratio rD
Determinants of Monetary Base (MB)
Discount Loans and Interest Spread
Determinants of DL
1. i up, i – id up, DL up
2. id up, i – id down, DL down
Determinants of {ER/D}
1. i up, opportunity cost of ER up, {ER/D}down
2. Expected deposit outflows up, ER up, {ER/D} up
Factors Determining Money Supply
All the factors that affect the multiplier and the monetary base.
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