Money in Modern Economy

The meaning of money

Money is the set of assets in the economy that the people regularly use to buy goods and services from each other.

The cash in one's wallet is money because one can buy a meal at a restaurant or a shirt at a clothing store.

The Functions of Money

A medium of exchange:- A medium of exchange is an item that buyers give to sellers when they want to purchase goods and services.

Unit of account :- It is the yardstick people use to post prices and record debts.

Store of Value:- It is an item that people can use to transfer purchasing power from the present to future .

Liquidity:-It is ease with which an asset can be converted into the economy's medium of exchange.

The kinds of money

When the money takes the form of a commodity with intrinsic value, it is called commodity money.The term intrinsic value means that the item would have valus even it were not used as money.One example of commodity money is gold and another is cigarettes in POW camp.

Money without the intrinsic value is called fiat money.A fiat is an order or decree and fiat money is established as money by government decree.

Money Supply

The term 'the supply of money' is synonymous to such terms as money stock , stock of money , money supply and quantitiy of money.

The supply of money at any moment is the total amount of money in the economy.

There are various views regarding the defintion of money and accordingly there are different defintions of money supply .

M0 and M1

1. M0 - Reserve Money

M0 = Currency in Circulation + Bankers' Deposits with RBI + Other deposits with RBI

2. M1 - Narrow Money

M1 = Currency with public + Demand deposits with the Banking system + Other deposits with RBI

M1 = Currency with the Public + Current Deposits with the Banking System + Demand Liabilities Portion of Savings Deposits with the Banking System + 'Other' Deposits with the RBI

M2 and M3

3.M2

M2 = M1 + Time Liabilities Portion of Savings Deposits with the Banking System + Certificates of Deposit issued by Banks + Term Deposits of residents with a contractual maturity of up to and including one year with the Banking System (excluding CDs)

M2 = Currency with the Public + Current Deposits with the Banking System + Savings Deposits with the Banking System + Certificates of Deposit issued by Banks + Term Deposits of residents with a contractual maturity up to and including one year with the Banking System (excluding CDs) + 'Other' Deposits with the RBI

4. M3 - Broad Money

M3 = M2 + Term Deposits of residents with a contractual maturity of over one year with the Banking System + Call/Term borrowings from 'Non-depository' Financial Corporations by the Banking System

M4

5. M4

M4 = M3 + All deposits with post office savings banks

Determinants of money supply

The required reserve ratio

The level of bank reserves

Public desire to hold currency and deposit.