Money is funny. Although we use it every day, most people cannot explain what money is, where it comes from, or why we assign it value. Cash is both a familiar and unknown King.
The U.S. money supply — sub-divided into M1 and M2 — consists of more than the cash and coins in our collective pockets. It is found in different places, called different names, and used for different purposes.
At a high level, money is the common language of a modern economy. It facilitates efficient communication between buyers, sellers, and other players in the Great Economic Game.
Let's define the categories of money before seeing how each has changed over time.
M1, the narrowly defined category of money, consists of:
- Currency outside the U.S. Treasury, Federal Reserve Banks, and the vaults of depository institutions;
- Demand deposits at commercial banks less cash items in the process of collection and Federal Reserve float; and
- Other liquid deposits, consisting of other checkable deposits (OCDs) and savings deposits (including money market deposit accounts).
M2, the broadly defined category of money, consists of:
- All of M1 (above) plus;
- Small-denomination time deposits (time deposits in amounts of less than $100,000) less IRA and Keogh balances at depository institutions; and
- Balances in retail money market funds (MMFs) less IRA and Keogh balances at MMFs.