Final answer:
The monetary base consists of currency in circulation and reserves held by the central bank, forming the foundation for the banking system to create money. The money supply, categorized into M1 (very liquid assets) and M2 (includes M1 plus less liquid assets like savings accounts and CDs), refers to all the money available in the economy for immediate or near-immediate use.
Step-by-step explanation:
The monetary base and the money supply are fundamental concepts within monetary economics that describe different components of the total amount of money within an economy. The monetary base refers to the sum of a country's currency (coins and bills) in circulation and their reserves held by the central bank. Therefore, it is considered the foundation upon which the commercial banking system can create more money. In contrast, the money supply, which can be categorized into M1 and M2, includes the monetary base but also comprises additional forms of money that are more accessible to the public and businesses for regular economic transactions.
M1 money supply involves the most liquid forms of money, including currency in the hands of the public and checkable (demand) deposits. M2 money supply expands on this by also incorporating slightly less liquid assets such as savings accounts, time deposits, certificates of deposits (CDs), and money market funds. The key distinction is liquidity; M1 assets can be used for transactions more readily, while M2 assets may require some time or penalty to convert to cash.