Banking and the Money Multiplier

How do fractional reserve banking contribute to the supply of money?

creates a money multiplier; person A gives 1000 to the bank and gets a debit card. person B wants 800 as a loan to spend. now there is 1800 spendable money

M0

the value of all coins and bank notes (physical cash)

M1

M0 + the value of all checkable deposits (checking accounts and traveler’s checks)

M2

M1 + the value of all savings deposits (savings accounts, short-time deposits)

M3

M2 + large and long-term deposits (CDs, long-time deposits)

are CDs spendable?

no, but it’s easy to break contract to withdrawal money

What happened to M1 in 2020?

M1 quadrupled from 4T to 16T because the federal reserve board rescinded a regulation limit on saving accounts so people could spend money making the saving accounts equivalent to checking accounts, so M2 went into M1

who creates most of spendable money

fractional reserve banking

mechanisms for raising interest rates

decrease the money supply, change money multiplier

why is the per capita cash amount so high?

black markets, international use of other countries holding US dollars for a safety net

what are the causes of short-run fluctuations

demand shocks, supply shocks, monetary and credit shocks

demand shocks

changes in consumption or government expenditure, COVID

supply shocks

input price shocks (oil prices), natural disasters

monetary and credit shocks

bank crises, been responsible for many of the biggest recessions and depressions in history

bank run

everyone demands money back; related to the tinkerbell effect because if people lose faith in banks, people will withdraw from bank leading to liquidity risk; herding either irrational or informational can lead more people to join a bank run