Broad money

From CEOpedia | Management online

Broad money (or M3) is a measure of the total amount of money circulating in an economy. It includes all components of the narrow money supply (M1), such as currency and demand deposits, as well as additional forms of money such as time deposits and money market funds. It is an important measure of the availability of money in an economy and is closely watched by central banks and governments. Broad money is generally considered a better indicator of money supply than narrow money, as it provides a more comprehensive view of the types of money available for economic transactions.

Example of broad money

  • Currency: This includes physical notes and coins, as well as electronic forms such as debit cards and prepaid cards.
  • Demand deposits: This is the money held in current accounts, such as checking accounts and savings accounts.
  • Time deposits: These are deposits held for a fixed period of time and usually pay higher interest rates than demand deposits. Examples include certificates of deposit (CDs) and term deposits.
  • Money market funds: These are mutual funds that invest in short-term debt instruments and other money market instruments.
  • Repurchase agreements: These are agreements between two parties to buy and sell securities in the future. They are a form of short-term borrowing and are often used to raise capital and manage liquidity.

Formula of broad money

The formula for calculating broad money (M3) is as follows:

M3 = M1 + M2 + Other Deposits + Money Market Instruments + Government Deposits

Where:

M1 = Currency in Circulation + Demand Deposits

M2 = M1 + Savings Deposits + Time Deposits

Other Deposits = Deposits of Financial Corporations + Deposits of Non-Financial Corporations + Household Deposits

Money Market Instruments = Commercial Papers + Negotiable Certificates of Deposits + Repurchase Agreements + Money Market Mutual Funds

Government Deposits = Deposits of Central Government + Deposits of State and Local Governments

M3 is a measure of the total amount of money circulating in an economy and can be used to assess the availability of money for economic transactions. It is generally considered a better indicator of money supply than M1 (narrow money) as it provides a more comprehensive view of the types of money available. M3 includes all components of M1, such as currency and demand deposits, as well as additional forms of money such as time deposits and money market funds. It is closely watched by central banks and governments, as it can be used to identify and address any potential issues in the money supply.

When to use broad money

Broad money is often used by central banks and governments to assess the amount of money available in an economy. It can be used to inform decisions on the level of interest rates, the amount of credit available, and the level of economic activity. Broad money is also useful for analyzing the potential effects of changes in government policy on the money supply. Some of the key applications of broad money include:

  • Analyzing the effects of monetary policy on economic activity: Broad money can provide insight into how changes in monetary policy - such as changes in interest rates or the money supply - affect the level of economic activity.
  • Gauging potential inflationary pressures: Broad money can be used to measure the amount of money available for economic transactions, which can provide an indication of whether inflationary pressures are likely to build.
  • Assessing the level of economic activity: Broad money can be used to measure the amount of money available for economic transactions, which can provide an indication of the level of economic activity.
  • Identifying money supply trends: Broad money can provide insight into whether money supply is increasing or decreasing over time, which can be used to assess the potential impact of changes in government policy.

Advantages of broad money

Broad money is a measure of the total amount of money circulating in an economy, and is an important measure of the availability of money in an economy. There are several advantages to using broad money as an indicator of money supply, including:

  • It provides a more comprehensive picture of the types of money available for economic transactions, such as currency, demand deposits, time deposits and money market funds.
  • It is more reliable and comprehensive than narrow money, which only includes currency and demand deposits.
  • It is closely monitored by central banks and governments, who use it to develop policy and monitor economic trends.
  • It can provide a better understanding of the state of the economy, as it reflects the total amount of money in circulation.

Limitations of broad money

Broad money is an important measure of the money supply and availability of money in an economy, but it is not without its limitations. These include:

  • Lack of precision: Broad money does not provide a precise measure of the money supply and can be subject to wide fluctuations.
  • Excludes some types of money: Broad money does not include all forms of money, such as large denomination deposits and foreign currency deposits, which can have a significant impact on the money supply.
  • Does not reflect changes in the value of money: Broad money does not take into account changes in the value of money due to inflation or deflation, which can have a significant impact on the money supply and availability of money in an economy.
  • Time lag: Broad money measures can be subject to significant delays in reporting, which can lead to inaccuracies in the data.


Broad money — recommended articles
Monetary aggregates — LIBID — Major currencies — Market performance — Financial exposure — Nominal exchange rate — Market condition — Net Borrower — Interest rate parity

References

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