convertible into each other and both can be used directly for expenditures, they aremoney in equal degree. However, only the cash and balances held by the nonbankpublic are counted in the money supply. Deposits of the U.S. Treasury, depositoryinstitutions, foreign banks and official institutions, as well as vault cash in depositoryinstitutions are excluded.This transactions concept of money is the one designated as M1 in the FederalReserve's money stock statistics. Broader concepts of money (M2 and M3) include M1as well as certain other financial assets (such as savings and time deposits atdepository institutions and shares in money market mutual funds) which are relativelyliquid but believed to represent principally investments to their holders rather than mediaof exchange. While funds can be shifted fairly easily between transaction balances andthese other liquid assets, the money-creation process takes place principally throughtransaction accounts. In the remainder of this booklet, "money" means M1.The distribution between the currency and deposit components of money dependslargely on the preferences of the public. When a depositor cashes a check or makes acash withdrawal through an automatic teller machine, he or she reduces the amount of deposits and increases the amount of currency held by the public. Conversely, whenpeople have more currency than is needed, some is returned to banks in exchange for deposits.While currency is used for a great variety of small transactions, most of the dollar amount of money payments in our economy are made by check or by electronic transfer between deposit accounts. Moreover, currency is a relatively small part of the moneystock. About 69 percent, or $623 billion, of the $898 billion total stock in December 1991, was in the form of transaction deposits, of which $290 billion were demand and$333 billion were other checkable deposits.
What Makes Money Valuable?
In the United States neither paper currency nor deposits have value as commodities.Intrinsically, a dollar bill is just a piece of paper, deposits merely book entries. Coins dohave some intrinsic value as metal, but generally far less than their face value.What, then, makes these instruments - checks, paper money, and coins - acceptable atface value in payment of all debts and for other monetary uses? Mainly, it is theconfidence people have that they will be able to exchange such money for other financial assets and for real goods and services whenever they choose to do so.Money, like anything else, derives its value from its
in relation to its usefulness.Commodities or services are more or less valuable because there are more or less of them relative to the amounts people want. Money's usefulness is its unique ability tocommand other goods and services and to permit a holder to be constantly ready to doso. How much money is demanded depends on several factors, such as the totalvolume of transactions in the economy at any given time, the payments habits of thesociety, the amount of money that individuals and businesses want to keep on hand totake care of unexpected transactions, and the forgone earnings of holding financialassets in the form of money rather than some other asset.Control of the
of money is essential if its value is to be kept stable. Money's realvalue can be measured only in terms of what it will buy. Therefore, its value variesinversely with the general level of prices. Assuming a constant rate of use, if the volumeof money grows more rapidly than the rate at which the output of real goods and