The Functions of Money: Measuring The Stock of Money

Measuring The Stock of Money Money is a stock rather than a flow. A stock is a variable that can be measured only at a given point in time. For example, the stock of money can be measured as the amount held by the public on a certain day. The stock of money can vary from day to day with conditions of supply and demand. To delve further into the mysteries of money let's examine the method used to measure the stock of money available at a given point in time. Measuring the Money Stock: M1 The Federal Reserve System, the central banking authority in the United States, has developed several alternative measures of the money stock. The most narrow definition of the money stock includes only items that serve as a medium of exchange. Ml is a measure of the money stock designed to include only currency and account balances commonly used in payment for purchases of goods and services. Ml is the sum of currency, traveler's checks, and checkable deposits held by the public. Box 1 shows the components of the money stock measured as Ml based on daily averages of the amounts actually held by the public during January 1990. You might be surprised to learn that currency constitutes only a bit more than one quarter of the available dollars used as a means of payment. Checkable deposits are by far the most important component of the available stock of money. Demand deposits at commercial banks constituted 34.9 percent of available money in January 1990. Other checkable deposits, mainly NOW and ATS accounts held at commercial banks, savings and loan associations, and other thrift institutions, accounted for another 35.9 percent of the money stock. Traveler's checks outstanding (such as those issued by the American Express Company) are a very small part of Ml, accounting for approximately 1 percent of the money stock. Adding Near Money to MI: M2 Deposits in noncheckable savings accounts, certificates of deposit, bonds, and other types of financial assets are not usually considered to be money because they cannot readily be used to make payments. These assets must first be liquidated, into either currency or demand deposits, before the sum they represent can be used to make a payment. Near monies are assets that are easily converted to money because they can be liquidated at low cost and little risk of loss. Because near monies can be easily and quickly converted to money, some economists prefer to include them in a measure of the nation's stock of liquid assets available to make purchases. The Federal Reserve System measures the sum of Ml and certain near monies to obtain a measure of liquid assets held by the public that constitute a store of readily available purchasing power. M2 is a broader measure of money than M1. This measure includes liquid assets that cannot be used directly as a medium of exchange but can be easily converted into checkable deposits or other components of M1. M2 is the sum of M1 and certain near monies: • M2 = M1 + Money market deposit accounts at banks + Money market mutual fund accounts + Savings accounts and small-denomination certificates of deposit + Certain other near monies Money market mutual fund accounts are offered by investment companies and give owners a share in an account of financial assets and allows them limited check-writing privileges on their accounts. Savings accounts are noncheckable savings deposits. Certificates of deposit (CDs) are deposits made in banks for a specified time with a penalty charged for early withdrawal. Savings deposits and certificates of deposit are examples of time deposits, which are interestbearing accounts at commercial banks and thrift institutions for which the bank can legally request a 30-day notice before paying out the funds. In practice banks rarely ask for the 30-day notice, but they do have the legal right to do so. Only insured certificates of deposit in amounts less than $100,000 are included in M2. Certificates of deposit in excess of $100,000 are not insured by an agency of the federal government. The other near monies mainly include certain types of debts issued by commercial banks. The table in Box 1 shows the relationship between Ml and M2. In January 1990, average daily balances of funds included in M2 amounted to four times Ml! Going one step further, you can add the large-denomination certificates of deposit and other large-denomination liquid assets to M2 to obtain still another measure of the stock of liquid assets held by the public called M3. • M3 = M2 + Large-denomination ($100,000 and more) certificates of deposit and other large-denomination liquid assets Throughout this book we will be referring to Mi when discussing the money stock. Although M2 and M3 are good measures of liquid assets available to the public, they include assets such as saving deposits that cannot readily be used to make payments and therefore cannot fulfill all the functions of money.