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A monetary system is anything that is accepted as a standard of value and measure of wealth in a particular region. However, the current trend is to use international trade and investment to alter the policy and legislation of individual governments. The best recent example of this policy is the European Union's creation of the euro as a common currency for many of its individual states. Modern currencies are not linked to physical commodities (silver or gold) and are not a contract to deliver a good or service. As such, the value of a currency fluctuates based on politics, credit worthinesss, perception, and emotion in addition to monetary policy.

Commodity money system

A Commodity money system is a monetary system such as the gold standard in which a commodity such as gold is made the unit of value and physically used as money, any other money, such as paper notes, being theoretically convertible to it on demand. An historical alternative which was rejected in the Twentieth Century was bimetallism, also called the "double standard", under which both gold and silver were legal tender

Fiat money

The alternative to a commodity money system is fiat money which is defined by a central bank and government law, or "fiat", which defines legal tender. Typically fait money is paper currency or base metal coinage, but can also be simply data such as bank balances and records of credit or debit card purchases.

Monetary economics is a branch of economics that historically prefigured and remains integrally linked to macroeconomics. Monetary economics provides a framework for analyzing money in its functions as a medium of exchange, store of value, and unit of account. It considers how money, for example fiat currency, can gain acceptance purely because of its convenience as a public good. It examines the effects of monetary systems, including regulation of money and associated financial institutions and international aspects. Modern analysis has attempted to provide a micro-based formulation of the demand for money and to distinguish valid nominal and real monetary relationships for micro or macro uses, including their influence on the aggregate demand for output. Its methods include deriving and testing the implications of money as a substitute for other assets and as based on explicit frictions.

Research areas have included:

  • empirical determinants and measurement of the money supply, whether narrowly-, broadly-, or index-aggregated, in relation to economic activity.
  • debt-deflation and balance-sheet theories, which hypothesize that a change in net worth of borrowers amplifies business fluctuations by changing credit in the same direction.
  • monetary implications of the asset-price/macroeconomic relation.
  • the importance and stability of the relation between the money supply and interest rates, the price level, and nominal and real output of an economy.
  • monetary impacts on interest rates and the term structure of interest rates.
  • lessons of monetary/financial history.
  • transmission mechanisms of monetary policy as to the macroeconomy.
  • the monetary/fiscal policy relationship to macroeconomic stability.
  • neutrality of money vs. money illusion as to a change in the money supply, price level, or inflation on output.
  • tests of rational-expectations theory as to changes in output or inflation from monetary policy.
  • monetary implications of imperfect and asymmetric information and fraudulent finance.
  • the political economy of financial regulation and monetary policy.
  • possible advantages of following a monetary-policy rule to avoid inefficiencies of time inconsistency from discretionary policy.
  • "anything that central bankers should be interested in."

Monetarism is the view within monetary economics that variation in the money supply has major influences on national output in the short run and the price level over longer periods and that objectives of monetary policy are best met by targeting the growth rate of the money supply.

In economics, the Money Supply or money stock, is the total amount of money available in an economy at a particular point in time. There are several ways to define "money," but standard measures usually include currency in circulation and demand deposits (depositors' easily-accessed assets on the books of financial institutions). Money supply data are recorded and published, usually by the government or the central bank of the country. Public and private sector analysts have long monitored changes in money supply because of its possible effects on the price level, inflation and the business cycle. That relation between money and prices is historically associated with the quantity theory of money. There is strong empirical evidence of a direct relation between long-term price inflation and money-supply growth, at least for rapid increases in the amount of money in the economy. That is, a country such as Zimbabwe which saw rapid increases in its money supply also saw rapid increases in prices (hyperinflation). This is one reason for the reliance on monetary policy as a means of controlling inflation.

This causal chain is contentious, however: some heterodox economists argue that the money supply is endogenous (determined by the workings of the economy, not by the central bank) and that the sources of inflation must be found in the distributional structure of the economy. In addition to some economists' seeing the central bank's control over the money supply as feeble, many would also say that there are two weak links between the growth of the money supply and the inflation rate: first, an increase in the money supply, unless trapped in the financial system as excess reserves, can cause a sustained increase in real production instead of inflation in the aftermath of a recession, when many resources are underutilized. Second, if the velocity of money, i.e., the ratio between nominal GDP and money supply, changes, an increase in the money supply could have either no effect, an exaggerated effect, or an unpredictable effect on the growth of nominal GDP.


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