One of the most important concepts to understand in economics is that of money. It forms the basis of the entire study of the economy. And one important aspect of money is the supply of money in the economy. Let us learn more about the supply of money and measures of money supply in India.
Let us first understand the meaning of money supply or monetary supply. Simply put, the money supply is the total stock of money that is in circulation in an economy on any specific day.
This includes all the notes, coins and demand deposits held by the public on such a day. Such as money demand, money supply is also a stock variable
One important point to note is that the stock of money kept with the government, central bank, etc. is not taken into account in money supply. This money is not in actual circulation in the economy and hence does not form a part of the monetary supply.
Now there are essentially three main sources of money supply in our economy. They are the produces of the money and are responsible for its distribution in the economy. These are
- The government who produces all the coins and the one rupee notes
- The Reserve Bank of India (RBI) which issues all the paper currency
- And commercial banks as they create the credit as per the demand deposits
Measures of Money Supply in India
Now we come to the next logical question. How can we measure the amount of money in the economy? It certainly isn’t an easy or straightforward task.
There is no one way to calculate the money supply in our economy. Instead, the Reserve Bank of India has developed four alternative measures of money supply in India.
These four alternative measures of money supply are labelled M1, M2, M3 and M4. The RBI will collect data and calculate and publish figures of all the four measures. Let us take a look at how they are calculated.
M1 (Narrow Money)
M1 includes all the currency notes being held by the public on any given day. It also includes all the demand deposits with all the banks in the country, both savings as well as current account deposits. It also includes all the other deposits of the banks kept with the RBI. So M1 = CC + DD + Other Deposits
M2, also narrow money, includes all the inclusions of M1 and additionally also includes the saving deposits of the post office banks. So M2 = M1 + Savings Deposits of Post Office Savings
M3 (Broad Money)
M3 consists of all currency notes held by the public, all demand deposits with the bank, deposits of all the banks with the RBI and the net Time Deposits of all the banks in the country. So M3 = M1 + time deposits of banks.
M4 is the widest measure of money supply that the RBI uses. It includes all the aspects of M3 and also includes the savings of the post office banks of the country. It is the least liquid measure of all of them. M4 = M3 + Post office savings
Solved Question for You
Q: What is money multiplier?
Ans: Money multiplier is a ratio used by the RBI. It is the ratio of Broad Money (M3) and Reserve Money with the RBI, which is also known as M0.