RBI definitions of Money Supply

RBI definitions of Money Supply

Money supply is the entire stock of money and other liquid instruments in a country at a given point of time. The money supply can include cash in hand, savings in banks saving bank accounts. The study of money supply helps in formulating national economic policies. In country interest rates depends upon the money supply and increasing or decreasing the amount of money flowing in the economy affects interest rates in a country thus, affecting the economic activities. Money supply is the amount of money in circulation in the economy at any point of time. It not only includes the currency & coins in circulation, but it also includes demand & time deposits of banks, post office deposits and such related instruments. Valuation and analysis of the money supply helps the economist and policy makers to frame the policy or to alter the existing policy of increasing or reducing the supply of money. The understanding of money supply is important as it ultimately affects the business cycle and thereby affects the economy.

Money supply data are collected, recorded and published periodically, typically by the country's government or the Central Bank. . Money supply affects the price level, inflation and the business cycle. The different types of money are typically classified as "M"s. The "M"s usually range from M0 (narrowest) to M3 (broadest) but which "M"s are actually

focused on in policy formulation depends on the country's central bank. In India, the Reserve Bank of India follows M0, M1, M2, M3 and M4 monetary aggregates.

The money supply can be generally classified as such as:

M0  (Reserve Money), M0 is a measure of the money supply is liquid or held in cash within a central bank and the amount of physical currency circulating in the economy. M0 money supply is also called narrow money. RBI measures M0 as Currency in circulation + Bankers’ deposits with the RBI + ‘Other’ deposits with the RBI

M1 M1 is a measure of the money supply that includes all physical money, such as coins and currency in circulation, as well as demand deposits checking deposits of public in bank accounts.,

M2 A measure of money supply that includes M1 plus savings deposits with Post office savings bank.  

M3 includes M1+ time deposits with Banks, Net bank credit to the government, Bank credit to the commercial sector and net foreign exchange assets in banking sector + Government’s currency liability to the public – net non-monetary liabilities of the banking sector (other than time deposits) .  

M4 includes M3 as well as time deposits in post offices bank (excluding national savings Certificate).  The broadest measure of an economy's money supply is M4. It emphasizes money as a store-of-value more so than money as a medium of exchange It is used by economists to estimate the entire money supply within an economy, and by governments to direct policy and control inflation over medium and long-term time periods.

The relation between money and prices is a well-established fact studied by many economists also called monetarists under the quantity theory of money. They find the strong empirical evidences of the direct relation between increase in the supply of money and prices. Money supply increase lowers interest rates, which in turns generates more investment and puts more money in the hands of consumers, thereby stimulating spending and resulting in inflation. The government therefore uses monetary policy to control money supply in the economy for stable growth.