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Most of the money supply is in the form of bank deposits. Bank loans may increase the quantity of broad money to more than the amount of base money issued by the central bank. Governmental authorities, including central banks and other bank regulators, can use policies such as reserve requirements, and capital adequacy ratios to limit the amount of broad money created by commercial banks. Money issued by central banks is called base money, or reserves, while money issued by commercial banks or other intermediaries is termed broad money.
Central banks monitor the amount of money in the economy by measuring monetary aggregates such as M2. The effect of monetary policy on the money supply is indicated by comparing these measurements on various dates. 407 trillion in January 2005, to 18. 136 trillion in January 2009.
Monetary policy regulates a country’s money supply, the amount of broad currency in circulation. People’s Bank of China for conducting monetary policy. Charged with the smooth functioning of the money supply and financial markets, these institutions are generally independent of the government executive. The primary tool of monetary policy is open market operations: the central bank buys and sells financial assets such as treasury bills, government bonds, or foreign currencies.
Purchases of these assets result in currency entering market circulation, while sales of these assets remove currency. Usually, open market operations are designed to target a specific short-term interest rate.
Federal Reserve may target the federal funds rate, the rate at which member banks lend to one another overnight. In other instances, they might instead target a specific exchange rate relative to some foreign currency, the price of gold, or indices such as the consumer price index.
The conduct and effects of monetary policy and the regulation of the banking system are of central concern to monetary economics. In modern economies, relatively little of the supply of broad money is in physical currency. The manufacturing of new physical money is usually the responsibility of the central bank, or sometimes, the government’s treasury. Contrary to popular belief, money creation in a modern economy does not directly involve the manufacturing of new physical money, such as paper currency or metal coins.
Governments or commercial banks may draw on these accounts to withdraw physical money from the central bank. Commercial banks may also return soiled or spoiled currency to the central bank in exchange for new currency.
In the future, it is possible that central banks will issue digital currencies in replacement of cash. Usually, a central bank will conduct open market operations by purchasing short-term government bonds or foreign currency.