Monetary base

Monetary base
See also
Floating exchange rate system Fixed exchange rate Reflation Buffer stock Major currencies Stabilization policy Reserve ratio Ratchet effect Currency Convertibility

The Monetary base is the total amount of a country's currency that is either in circulation or in the form of bank reserves. It is composed of physical currency and coins, as well as the reserves held by commercial banks at the central bank. The Monetary base is an important tool for policymakers to control inflation and money supply.

The Monetary base consists of two components:

• Currency in circulation: This refers to physical banknotes and coins that are in circulation in the economy.
• Bank reserves: This refers to the deposits banks have at the central bank. These reserves are used by banks to make loans and other transactions.

The Monetary base can be increased by the central bank purchasing government bonds or other securities, or by decreasing the reserve requirements for banks. The Monetary base can be decreased by selling government bonds or increasing reserve requirements for banks.

In summary, the Monetary base is the total amount of a country's currency in circulation or held as bank reserves by commercial banks at the central bank. It is an important tool for policymakers to control inflation and money supply, and is composed of currency in circulation and bank reserves.

Example of Monetary base

The Monetary base can be represented mathematically using the formula:

M = C + R

Where M is the Monetary base, C is currency in circulation, and R is bank reserves. This formula illustrates how the Monetary base is composed of currency in circulation and bank reserves.

Formula of Monetary base

The formula for the Monetary base is as follows:

$Monetary\ Base=Currency\ in\ Circulation+Bank\ Reserves$

The Monetary base is the total amount of a country's currency in circulation or held as bank reserves by commercial banks at the central bank. It is an important tool for policymakers to control inflation and money supply, and is calculated by adding together currency in circulation and bank reserves.

When to use Monetary base

The Monetary base is used by policymakers to control inflation and money supply. For example, a central bank can increase the Monetary base by purchasing government bonds or other securities, or by decreasing the reserve requirements for banks. This will increase the money supply, which can lead to inflation. On the other hand, the Monetary base can be decreased by selling government bonds or increasing reserve requirements for banks, which will reduce the money supply and help to control inflation.

Types of Monetary base

The type of Monetary base used by a country depends on the monetary policy adopted by the central bank. The two main types of Monetary base are a fixed Monetary base and a flexible Monetary base.

• Fixed Monetary base: This type of Monetary base is set by the central bank and is not adjusted by the market. This type of Monetary base is often used in countries with a high inflation rate, as it helps to stabilize prices.
• Flexible Monetary base: This type of Monetary base is adjusted by the market, based on demand and supply of money. This type of Monetary base is often used in countries with low inflation, as it helps to promote economic growth.

Steps of Monetary base

The steps of the Monetary base are:

• Expansionary Open Market Operations: The central bank will buy bonds and other securities from banks, increasing the supply of money, which is referred to as expansionary open market operations.
• Discount Rate: The central bank can also decrease the discount rate, which is the rate at which banks can borrow from the central bank. This will encourage banks to borrow more, increasing the money supply.
• Reserve Requirement: The central bank can also decrease the reserve requirement, which is the amount of money banks must keep on reserve. This will allow banks to lend out more money, increasing the money supply.

Advantages of Monetary base

• Low inflation: Increasing the Monetary base can help to reduce inflation by controlling the money supply in the economy.
• Flexible: The Monetary base is a flexible tool for policymakers, as it can be increased or decreased depending on the economic conditions.
• Liquidity: Increasing the Monetary base can help to provide liquidity in the economy, which can help to stimulate economic activity.

Limitations of Monetary base

The Monetary base has several limitations that must be taken into account when using it as a policy tool. These include:

• Low velocity of money: The velocity of money is the rate at which money circulates in the economy. If the velocity of money is low, then an increase in the monetary base will not have a significant impact on the money supply.
• Ineffective targeting: The Monetary base can be difficult to target effectively as it is often difficult to predict the effects of a change in the base on the money supply.
• Inflationary effects: An increase in the Monetary base can lead to an increase in inflation if it is not managed properly.

Other approaches related to Monetary base

• Expansionary monetary policy: Expansionary monetary policy is used by central banks to increase the supply of money in the economy. This can be done by lowering the interest rate, or by increasing the monetary base.
• Quantitative easing: Quantitative easing is a form of expansionary monetary policy where the central bank purchases government bonds or other securities in order to increase the monetary base.
• Contractionary monetary policy: Contractionary monetary policy is used by central banks to decrease the supply of money in the economy. This can be done by increasing the interest rate, or by decreasing the monetary base.

In summary, other approaches related to the Monetary base include expansionary and contractionary monetary policies, as well as quantitative easing. Expansionary monetary policy is used to increase the money supply, while contractionary monetary policy is used to decrease the money supply. Quantitative easing is a form of expansionary monetary policy.

Suggested literature

• Anderson, R. G. (2006). Monetary base. FRB of St. Louis Working Paper No.
• Kimura, T., Kobayashi, H., Muranaga, J., & Ugai, H. (2003, September). The effect of the increase in the monetary base on Japan’s economy at zero interest rates: an empirical analysis. In Monetary policy in a changing environment, bank for international settlements conference series (Vol. 19, pp. 276-312).