Question

1) Define MB, M1, M2 and M3.

2) What is the reason for using these different measures of money supply?

3) Is there a measure of money supply that is NOT affected by the banking multiplier, i.e. that is determined solely by the actions of the Central Bank?

4) Which nominal interest rate is controlled by the Central Bank? How?

Answer 1

1.

MB: is referred to as the monetary base or total currency. This is the base from which other forms of money are created and is traditionally the most liquid measure of the money supply.

M1, also called narrow money, normally include coins and notes in circulation and other money equivalents that are easily convertible into cash.

M2 includes M1 plus short-term time deposits in banks and 24-hour money market funds.

M3 includes M2 plus longer-term time deposits and money market funds with more than 24-hour maturity.

2. Use of these different measures of Money Supply helps economists analyze the money supply and develop policies revolving around it through controlling interest rates and increasing or decreasing the amount of money flowing in the economy.

3. Reserve requirement is a measure of money supply that is NOT affected by the banking multiplier, i.e. that is determined solely by the actions of the Central Bank

4. Central banks set short-term nominal interest rates, which form the basis for other interest rates charged by banks and financial institutions.