Endogenicity Chinese Money Supply

Endogenity and exogeneity of money supply has been the focus of discussion inmonetary theory. It is especially more meaningful to discuss it today when the moneystock in the form of M2in China has surpassed over110trillion RMB. Since theintermediate target of the central bank’s monetary policy is the money supply,endogenous money supply or money supply with strong endogenity will make centralbank more difficult to implement its monetary policy. Meanwhile, if money supply isexogenous and totally controlled by the central bank, then China’s huge stock ofmoney currently is undoubtedly the result of the central bank’s surplus money supply.But if the money is endogenous, then the huge amount of money stock now comesfrom the need for economic development. Therefore, the study of the endogenity ofmoney supply can help us understand the resource of our country’s huge stock ofmoney, which can provide a theoretical support for the choice of our monetary policy.This paper is a combination of theoretical and empirical analysis to study theendogenity of China’s currency.This paper first reviews the theoretical literature on the endogenity of moneysupply at home and abroad. It also studies the development and achievements ofendogenous supply theory since the18th century, which provides the basis forsubsequent theoretical analysis. On the basis, endogenity of Chinese basis currency isexamined by seeing how Chinese basic currency issuance is influenced by foreignexchange reserves and refinancing of commercial banks. It analyzes the endogenity ofmoney multiplier through examining factors affecting it such as required reserve ratio,excess reserve ratio and cash leakage rate. How does China’s financial innovationimpact the endogenity of money supply has also been investigated. In the empiricalpart, all relevant data starting from the first quarter of2000to the fourth quarter of2013is selected, by which the endogenity of the basic currency, endogenity of moneymultiplier and effects of financial innovation in the third part of the theoreticalanalysis are empirically studied respectively.This paper concludes that: first, the money supply in China is endogenous. Thebasic currency and the money multiplier both show a certain degree of endogenity;Second, China’s financial innovation strengthened the endogenity of China’s currency,which makes it more difficult for central bank to control the money supply. Therefore,in order to deal with endogenous money supply, this paper proposes to speed up thereform of the exchange rate system and use willingness exchange settlement system tosolve passive issuance of basic currency. In addition, monetary policy tools should beincreased to speed up interest rates liberalization so that the central bank’s monetarypolicy tools rely more on price-based tools instead of the current quantitative tools.Finally, with today’s deepening financial innovation, financial supervision must bestrengthened to prevent financial risks.