August 28, 2002

Control of the monetary aggregates is a controversial issue among economists. We pay attention to three different monetary aggregates-the monetary base, MZM and M3. The base, being the narrowest, is our candidate for the aggregate most likely to be under the control of the Fed. Our rationale is fairly simple. On the source side, the monetary base consists of the greenbacks circulating in the economy. The Fed increases the base when it buys bonds in the open market and reduces it when it sells bonds, thus the Fed controls the monetary base to the penny. The Feds control of the broader aggregates is more tenuous. The base has two distinct uses in our financial system. It can be used as currency in circulation or it can be used as bank reserves. However, it is not up to the Fed how the private sector chooses to use the base. (full article attached)

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