Question

Why are there more elements to the money supply than just the money that is actively circulating?

Answer 1

The money supply consists of more than just currency in circulation because it includes all monetary assets available in an economy such as bank deposits and other liquid assets that can be easily converted into cash or used for transactions. These are categorized into different levels like M1, M2, and M3 and are critical for economic health and central bank policies.

Step-by-step explanation:

The money supply is composed of more elements than just currency in circulation because it reflects the total amount of monetary assets available within an economy for buying goods and services. Besides the physical money that people and businesses carry and use daily (notes and coins), the money supply includes various types of bank deposits (like savings accounts, money market accounts, and time deposits) which can be quickly converted into cash or used for cashless transactions. These components are categorized into different measures of money supply (M1, M2, M3, etc.), with each measure encompassing a broader range of liquidity (ease of converting to cash).

For a healthy economy, a balance in the money supply is essential. It is influenced not only by the public's demand for cash but also by the banking system through practices such as loan creation. When banks extend loans, they 'create' money by adding deposit amounts to borrowers' accounts, effectively increasing the money supply. This aspect of the money supply can be pivotal during periods of economic adjustment or central bank policy changes.

Answer 2

The money that is actively circulating is specifically identified as CASH. It is a part of the money supply.

Basic money supply are all the cash held by the public either on hand or in their transaction accounts like savings or checking accounts. These are all money because they have the ability to purchase goods and services aside from cash exchanges.