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slides14 - Mishkin ch.14: The Money Supply Process Money =...

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[Notes on Mishkin Ch.14 - P.1] Mishkin ch.14: The Money Supply Process • Money = Currency + Deposits (Applies directly to M1. Analogous for M2.) - Deposits: created by banks&customers - Currency: created by Fed whenever banks redeem their reserves - Assume “Normal” conditions: interest rates >> 0. Then examine crises. • Fed has authority to impose reserve requirements : r = reserve ratio Reserves r · Deposits Symbols: R r · D => Deposits (1/r) · Reserves D (1/r) · R • Objectives: 1. Show that Fed can control the monetary base Monetary Base = Currency + Reserves MB = C + R 2. Derive a money multiplier so that Money = Multiplier · (Currency+Reserves) M = m · (C+R) 3. Prepare for Fed Funds market analysis - Show that the Fed could control other balance sheet items (e.g. reserves) equally well - Introduce concept of “defensive” open market operations.
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[Notes on Mishkin Ch.14 - P.2] Links between Banks and the Fed: Reserves and Discount Loans • Fed Balance Sheet: Assets Liabilities BR Discount loans C Currency Securities R Bank reserves Gold Check Float Treasury Dep Foreign CB Dep [ Currency includes Treasury coins – small] • Balance Sheet of the Banking System: Assets Liabilities R Reserves D Checkable Deposits Loans Other Deposits Securities BR Borrowings • Linkages: Discount loans = Borrowed Reserves BR Bank deposits at Fed = Reserves R
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[Notes on Mishkin Ch.14 - P.3] Sources of Reserves: Balance Sheet Analysis Fed Assets Fed Liabilities C Currency Securities BR Discount loans R Reserves Gold Check Float Treasury Deposits Foreign CB Deposits Decompose reserves: R = NBR + BR Borrowed reserves = Discount loans: must be repaid at maturity Non-borrowed reserves = from open market operations (all other sources) - Distinction is conceptual, not identified in reserve accounts - Observe R and BR, compute: NBR = R – BR. - Similarly decompose MB: MB n = MB - BR = C + NBR
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[Notes on Mishkin Ch.14 - P.4] Example Initial Fed Balance Sheet Assets Liabilities Securities 99 Currency 90 Discount Loans 1 Reserves 5 Treasury/CB Dep. 5 - Compute: MB = ___, R = ___, MB n = ___, NBR = ___ Open Market Operation: Purchase of securities (Sale: All in Reverse) Assets Liabilities Securities + 1 Reserves + 1 - New Balance Sheet: Assets Liabilities Securities 100 Currency 90 Discount Loans 1 Reserves 6 Treasury/CB Dep. 5 - Compute: MB = ___, R = ___, MB n = ___, NBR = ___
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[Notes on Mishkin Ch.14 - P.5] Bank-initiated Federal Reserve Transactions 1. Discount Loans : Assets Liabilities Discount Loans +1 Reserves +1 => New Balance Sheet: Assets Liabilities Securities 99 Currency 90 Discount Loans 2 Reserves 6 Treasury/CB Dep. 5
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slides14 - Mishkin ch.14: The Money Supply Process Money =...

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