‘fectuve 6 ‘TheMoney Supply Process - Continued Remember * Monetary base (High powered money) = MB =C +R €: Currency in Circulation R: Total Reserves in the Banking system ‘> Determine the effect on Central Bank (FED) & Banking system (commercial bank) Balance sheet Case 1: Open market Purchase through bank deposit Open Market Purchase from Nonbank Public | Banking System Federal Reserve System Assets Liabilities Assets Liabilities Reserves +$100|Checkable +8100 | [Securities +$100|Reserves +100 deposits * Both banking system & central bank's (FED) balance sheets are affected * No change in currency + Monetary base has risen by $100 1Case 2 Open market purchase through cash payment Open Market Purchase from Nonbank Public II Nonbank Public Federal Reserve System Assets Liabilities Assets Liabilities Securities -$100 ‘Securities +8100 | Currency in +$100 circulation Currency +$100 * Banking system Balance sheet not affected& Reserves are unchanged * Currency in circulation increases by the amount of the open market purchase (Central bank balance sheets affected) * Monetary base increases by the amount of the open market purchase = Aperson (nonbank public) selling the bonds to the FED means that the FED purchases (buy) the bonds > Open Market Purchase > The effect of an open market purchase on feserves depends on whether the seller of the bonds keeps the proceeds from the sale in currency or in deposits. = The effect of an open market purchase on the Monetary base (C + R) always increases the base by the amount of the purchase.‘Nenbank Publis Banking System Assets abilies Assets Labilies Checkable $100 Reserves —=5100| Checkable —=S100 deposits depois Currency $100 >The banking system loses $100 million deposits & hence reserves decrease by $100 million. Federal Reserve System Assets Liabilities Currency in +$100 circulation Reserves -$100 > For the FED, this means that currency circulating in the hands of the public increase by $100 million & resrves in the banking system have fallen by $100 million. > Therefore, the monetary base is not affected but reserves are affected.Banking System Federal Reserve System Assets Liabilities Assets Liabilities Reserves +$100| Discount +$100 Discount —+$100 Reserves +8100 loans loan (borrowing from (borrowing from Fed) Fed) > Monetary liabilities of the Fed have increased by $100 > Monetary base also increases by this amount. Fed) | Fes) Banking System [___ Federal Reserve System = abies | [__ Assets abies Resenes $100 [Discount $700 | [Discount $100 Reserves $100 loans {loans (bomowng fom | | (Gerrwng From > Net effect on monetary base is a reduction > Monetary base changes one-for-one with a change in the borrowings from the Federal Reserve System © Money Substitutes are things that temporarily serve as a medium of exchange such as cre (money). cards; but they are not money * Near money includes interest-earning assets that fulfill adequately the store- of-value function and are readily converted into a medium of exchangeGell Beliey & Hard Work will Always