Basics of Monetary Aggregates

During the 1970s RBI introduced the Money Stock Measures. These were appropriately changed on the recommendation of the Y B Reddy Committee in the late 1990s.

Supply of Money

The supply of money or money in circulation is the money held by the individuals, institutions and business houses. This excludes the money lying in the Government treasury and money held with the reserve banking system. At any point of time, the money held with the public has two components

1. Currency Component: This consist of all the coins and notes in the circulation , as issued by the Reserve bank of India.
   
2. Deposit Component: Deposit component is the money of the general public with the banks, which can be withdrawn by them using cheques, withdrawals and ATMs.
   

Currency with the public

The currency with the public has 4 components:

• Notes in Circulation (plus)
  
• Circulation of Rupee Coins (Plus)
  
• Circulation of small coins (minus)
  
• Cash on hand with Banks. = currency with the public.
  

In 2008-09, the Indian public held Rs. 6,66,095 Crore Rupees in the form of the above 4 components. This money is divided as follows:

• Notes in Circulation:                 Rs. 681, 099 Crore
  
• Circulation of Rupee Coins:             Rs. 8417 Crore
  
• Circulation of small coins:             Rs. 1567 Crore
  
• Cash on hand with Banks:             Rs. 24988 Crore
  
• Total (A+B+C-D) :                 Rs. 666095 Crore
  

The Deposit money of the public has two components:

• Demand deposits with the Banks
  
• Other deposits with the RBI
  

The above two components are added to get the Deposit money with the public. In 2008-09, Indian Public had Rs. 579462 Crore as Deposit Money i.e. Rs. 573918 Crore as Demand deposits with the Banks and Rs. 5544 as other deposits with the RBI.

The total Money supply with the public was Rs. 666095 + Rs. 573918 = Rs. 12,45,557 Crore.

Monetary Aggregates

The Reserve bank of India calculates the 4 concepts of Money supply in India. They are called Money Stock Measures. They are as follows:

• M₁: This is Currency with the public as mentioned above + Demand Deposits of the public as mentioned above. It is called Narrow Money.
  
• M₂ : This is Narrow Money i.e. M₁ + Post office Savings Deposits.
  
• M₃ : M₃ is broad Money i.e. M₁ + Aggregate Deposits of the Public which is made up of Demand Deposits and Time Deposits.
  
• M₄ : M₄ refers to M₃ and Post Office Deposits
  

Why M₂ and M₄ became irrelevant?

Now, out of the above four , the M₂ & M₄ became irrelevant over the period of time. This is because, there is NOT much change in the money of people deposited with the Post office and RBI did not care to update this money. The other important reason assigned to this is as follows:

There was a time when the Reserve Bank used broad money (M₃) as the policy target. However, with the weakened relationship between money, output and prices, it replaced M3 as a policy target with a multiple indicators approach.

• RBI started using the Multiple Indicator Approach since 1998
  

So, now Narrow Money (M₁) and Broad Money (M₃) are relevant. The RBI in all its policy documents, monthly Bulletins and other documents shows these aggregates. To understand the latest situation we take the RBI’s October 2010 Bulletin. This bulletin shows the following:

• Now, we understand that the major distinction between the M₁ and M₃ is “Treatment of deposits with the banks“. If we go a little deep, the M3 is the treatment of “Time Deposits” of the public, since demand deposits are available against cheques and ATMs.
  
• The “Time Deposits” are not liquid and they are earning assets.
  

But, for the last few years we have products like flexi deposits which allow partial or full convertibility of the time deposits into demand deposits. So, now-a-days, time deposits can also be considered liquid, at least partially.

Reserve Money

The RBI table on monetary indicators has the Reserve Money as one of the heads. This Reserve Money is basically Government Money or the Real Cash Money held with Both the Public and the Banks. This has the following components:

• Currency with the Public
  
• Other Deposits with the RBI
  
• Cash Reserves of the banks held with themselves
  
• Cash Reserves of the Banks held with RBI