Question

The monetary base increased by 20% during the contraction of 1929-1933, but the money supply fell by 25%. Explain why this occurred. How can the money supply fall when the base increases?

Answer 1

Money supply is the Quantity of money available in an economy for immediate use.It is equal to the currency held by public and demand deposits at commercial banks

Monetary base is the sum of total currency in circulation and amount held by banks as reserves.

In general, with the increase in Monetary base, there is an increase in money supply

Contraction of 1929-33 when monetary base increased by 20% while money supply fell by 25%------

*Reason for fall in money supply by 25%

It happened because due to defective Monetary policy by central banks,there was shrinkage of money supply in the economy as many banks had collapsed during that period. Thus the money supply fell by almost 25%

The monetary base

* Reason for Increase in Monetary base by 20%

During the world wide depression of 1929-33, there was a decline in consumer confidence . It forced them to hold more currency and spend less in the form of decrease in borrowing by public for Consumption and Investment spending .As a result, there was a rise in monetary base as money held by banks as reserves was not circulated in Economy.