The money supply is determined by:

Question

BlackTom AI · Accepted Answer

The money supply equals the monetary base times the money multiplier, so it depends on the Fed, banks, and depositors.

Relevant knowledge points and concepts:
- Monetary base (MB): currency plus reserves, controlled primarily by the Federal Reserve via open-market operations, discount lending, and reserve requirements.
- Money multiplier (m): the factor by which the banking system expands the monetary base into broader money (M). In a simple model m = (1 + c) / (r + c), where c = currency/deposit ratio (depositor behavior) and r = reserve/deposit ratio (bank behavior).
- Banks create deposits by making loans (fractional-reserve banking); depositors influence how much of money is held as currency versus deposits.

Step-by-step reasoning:
1. Start with the identity: M = m × MB.
2. The Fed changes MB directly. If MB rises, holding m constant, M rises proportionally.
3. Banks affect r (their chosen or required reserve ratio). Higher r reduces m and thus reduces M for a given MB; lower r increases m and M.
4. Depositors affect c. If depositors hold more currency relative to deposits (higher c), m falls and M falls; if they deposit more (lower c), m rises and M rises.

Calculation example (showing intermediate steps):
- Suppose MB = 100, r = 0.10, c = 0.20.
- Compute m = (1 + c)/(r + c) = (1 + 0.20)/(0.10 + 0.20) = 1.20/0.30 = 4.0.
- Then M = m × MB = 4.0 × 100 = 400.
- If Fed increases MB to 120, M = 4.0 × 120 = 480 (Fed effect).
- If banks raise r to 0.20 (MB back to 100), m = 1.20/(0.20+0.20)=1.20/0.40=3.0 → M = 300 (bank effect).
- If depositors raise c to 0.40, m = 1.40/(0.10+0.40)=1.40/0.50=2.8 → M = 280 (depositor effect).

Why the correct answer is correct:
All three players influence M: the Fed sets MB, banks determine how much of MB is leveraged into deposits (r), and depositors’ preferences (c) change the multiplier.

Why the other options are incorrect:
- “Only the Fed” ignores banks’ lending behavior and depositors’ currency choices.
- “Only banks” ignores the Fed’s control of the monetary base.
- “Only depositors” ignores both the Fed and banks’ roles.

Conclusion: The money supply is determined by the Fed, banks, and depositors, so the correct answer is d.

The money supply is determined by:Single choice

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