Money Supply Concept

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2.1.13 The Concept of Money supply
According Layi (1999) money supply means the amount of money which is available in an economy in sufficiently liquid and spendable form. What constitute the components of this money supply depends on what has been officially accepted by monetary authorities of each country as the constituents of money supply for that country. Thus, each country‟s money supply definition may be unique. According to him the narrowest definition of money supply in modern time is currency plus demand deposit and this definition is known theoretically as M1.
M1 = C + DD
Where C is currency held by the public and not in commercial or merchant banks or currency in circulation less notes and coins in the vault of commercial and merchant
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The quantity theory of money or equation of exchange was originated by the famous economist, Irving Fisher. However, Keynes (1936) strongly argued that, a change in the quantity of money may or may not affect prices. Actually, the changes in supply of money and prices are seen via their impact on the rate of interest, level of investment, output, employment and income. In fact, Keynes’ theory provides causal mechanism by which a change in quantity of money influences interest rate, and interest rate induces investment while investment leads to a multiplier effect on income, output and employment. The multiplier effect may lead to a change in cost of production which in turn affects the price level. However, the neo-Keynesian theoretical exposition combines both aggregate demand and aggregate supply. The neo-Keynesian school assumed a Keynesian doctrine on the short-run and a classical view in the long-run. The simplistic approach is to consider changes in public expenditures or the nominal money supply and assumes that expected inflation is Zero. However, aggregate demand increases with real money balances and decreases with the price level. The neo-Keynesian theory focuses on productivity, because declining productivity signals diminishing returns to scale and induces inflationary pressures, resulting mainly from over-heating of the economy and widening output gap. Moreover, Umo (2007) opined that when total demand increases more than the increase in the existing supply of output, demand pull inflation occurs. It is the stepped-up general demand which is pulling the general price level upwards. Besides, demand pull inflation is the excessive aggregate demand facilitated by excess supply of money. Fiscal and monetary policies are eminently suitable for dealing with this type of inflation. He

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