Topic one: Money multiplier
Money multiplier is the relationship between the monetary ba and each monetary aggregate. It refers to the linkage between current deposits at banks, which are liabilities of commercial banks to their customers, and bank rerves, which are asts of the commercial bank and liabilities of the central bank. This linkage is the central bank’s source of control over the money supply. Whenever a bank makes a loan to a customer, it creates a new deposit, and it will need to hold more rerves at the central bank.
Multiplier m=M/B=(1+b)/(b+r) where b: cash holding ratio (C/D cash holding / deposit) and r: rerve ratio (R/D banks’ central bank balances bear to deposits)金枝玉叶开花吗
According to this model, the money supply is decided by the monetary ba (the sum of currency in circulation and commercial bank rerves) and the money multiplier (decided by 清华招生currency/deposit ratio and the rerve ratio土豆炒芹菜).
Weakness:
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1. Leakages: the money multiplier is lower when conversion of bank deposits into currency acts as a drain on commercial banks’ rerves. Other leakages produce the same effect and help explain the relatively low money multipliers. Leakages occur when money is deposited in non-bank financial institutions which operate with a 100% rerve requirement. Money can also leak abroad, and this reduces the amount of rerves available for the banking system.
2. Variable multiplier: the money multiplier model ignores the interest rates and behavioral relationships. Therefore, the actual multiplier can fluctuate becau of variable economic conditions and expectation.
On banks’ side, they manage their asts and liabilities very carefully, with an eye to the future. Then, they may reject some loan applications as being too risky, or may keep extra rerves as an option for future business. As a result, banks routinely hold excess rerves. The volume of excess rerves is variable, and depends on economic conditions (which affect the risk that loans will go unpaid) and on the likely evolution of int
erest rates (expected future increas increa the attractiveness of holding rerves now).
On the private ctor’s side, the behavior can be variable as well. For example, fears of worning economic condition, or the expectation of declining interest rates, may limit the amount of new credit that the public wants to borrow. As result, the respon of banks to rerve availability is less automatic than implied by the money multiplier formulae. As conditions change, or are expected to change, the actual multiplier can fluctuate.
3. 慰问困难群众简报Costly to change rerve ratio: when the central bank has impod a rerve requirement which is binding, changing the rerve ratio can rve as an additional instrument of monetary policy. However, it may lead to drastic move, for example, changing the required rerved ratio from 5% to 6% will theoretically leads to 20% change on deposits. It not only stops commercial banks from lending, but might even cau them to call in some existing loan. Therefore, the move can be very costly and disruptive to banks. Central bank could only change rerve ratios in small increments, and the only in emergency situations.
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4. Central bank’s ability to control the supply of monetary ba. Three sources of the monetary ba need to be distinguished: A, intervention on the foreign exchange market; B, lending to the state, and C, lending to domestic commercial banks. Only when the central bank can determine all such transactions largely at its own discretion is it able to manage the monetary ba in line with its targets.
Then, the central bank must not be forced to bring about an excessive expansion in the central bank money supply through foreign exchange market intervention. This principle can be threatened if a central bank participates in an exchange rate system with fixed exchange rates.
A central bank must not be induced to provide unlimited finance to cover state deficits. In real world, nearly all cas of high inflation are attributable to this form of financing via the ‘banknote printing press’.宋之问
In spite of its popularity, the money multiplier model has some rious shortcomings. The shortcomings include: The leakage effect, the neglect of interest rates, the variabili
ty and unpredictability of real multiplier, the government and central bank’s willing and ability to control monetary ba. Thus, it is very difficult for country using this simple approach to control money supply. In real world, central banks implement their policy by changing key interest rates and not by targeting the monetary ba.
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