MONEY SUPPLY

Money supply can be defined as the aggregate supply of money in circulation, which comprises of currency with the public and demand deposits with the banks. It is the liquid assets held by individuals and banks. Some economists consider time and savings deposits to be part of the money supply because such deposits can be managed by governmental action and are involved in aggregate economic activity. These deposits are nearly as liquid as currency and demand deposits. Other economists believe that deposits in mutual savings banks, savings and loan associations, and credit unions should be counted as part of the money supply. Money supply is also known as money stock or monetary aggregates

There are several measures for the money supply, such as M1, M2, and M3. The money supply is considered an important instrument for controlling inflation .The Reserve bank of India has adopted four concepts of measuring money supply. They are M1, M2, M3, &M4.
The measure of money stock designated by M1 is usually described as the money supply. The components of money supply are currency with the public ie notes in circulation and deposits. It is the narrow measure of money, which is used for everyday expenditure.
Another measure of the money supply is M2, which is the total of M1, savings and small time deposits, overnight repos at commercial banks, and non-institutional money market accounts. M2 is a key economic indicator used to forecast inflation. M2 is also a broad money concept.
M2, plus large time deposits, repos of maturity greater than one day at commercial banks, and institutional money market accounts constitute M3 is also known as broad money concept. This includes net time deposits (fixed deposits), savings deposits with post office savings banks and all the components of M1.

The monetary policy and credit policy addresses the control of money supply. These policies are aimed at increasing or decreasing the money supply. The Reserve Bank of India announces these policies on a half yearly basis, at the commencement of each half-year. The major tools use by the RBI to control the money supply are the bank rate, variation of reserve ratios, open market operation and moral suasion.

When RBI increases or reduces the bank rate, the funds become dearer or cheaper to banks. This either eases the market with more money supply or tightens the market by withdrawing the excess liquidity in the market. The change in the reserve ratios such as Statutory Liquidity Ratio or Cash Reserve Ratio also reduces or increases the funds availability. Statutory Liquidity Ratio represents the investments made by the banks in unencumbered securities approved by the RBI. Under open market operations, the Reserve Bank auctions the treasury bills or buys the bills back so that the excess liquidity in the market would be absorbed. Similarly the buying back of the securities will enable the banks to get funds from the market. The moral suasion is a non-monetary measure. It is psychological pressure applied on the activities of the banks, which ultimately would either withdraw or supply money to the market.