Chapter 15
The Money Supply Process
This chapter provides an analysis of how the money supply is determined. One point that needs
to be emphasized at the outset is that the money supply is not determined solely at the whim of
the central bank; rather, there are two other players in the money supply process who also play
an important role: banks and depositors. Chapter 15 first extensively discusses the simple model
of multiple deposit creation, even though it is unrealistic and does not feature all of the players,
because it illustrates the basic principles used later in the chapter. The critique of the simple
model of multiple deposit creation then leads to a discussion of the money multiplier and a more
complete treatment of the money supply process.
Chapter 15 ends with an application on quantitative easing and the money supply in recent years.
There has been tremendous confusion about this topic in the media because many pundits claim
that quantitative easing has led to an explosion of high-powered money that will be highly
inflationary. However, as the application shows, a change in the Fed’s rules so that it could pay
interest on reserves meant that a massive expansion of the Fed’s balance sheet during and after
the global financial crisis resulted in only a moderate increase in the money supply. This
application should convince students that the analysis they have learned is not mere theory, but a
useful means of explaining topics that are hotly debated in the media.
For instructors who would prefer to deemphasize discussion of the money supply process in their
course, this chapter can easily be skipped. I have also found that I can skip this chapter.