The money supply chain is an essential component of a company that reveals the company’s financial status. The flow of money tells whether there is a need for money injection in the market or there is a need to stop the money in circulation. Talking about the relation between stock prices and money supply then they both carry a positive relation. The higher the money supply is in the market, the stock prices tend to move higher. With a lot of money being circulated in the market, the money becomes easy to access. There is extra money available to spend on stocks and further make other investments like bonds that are commonly less attractive.
Money circulation plays an important role when it comes to the interest rate. As the interest rate decreases in any economy, the process of lending and borrowing increases. This snatches investors’ interest towards burrowing money more. In contrast, the case is opposite when interest rate rises as borrowers decrease their borrowing, so the investors are attracted towards investing in stocks. Such actions stunt the growth of individuals with an increase in the growth of the stock market.
How Money Supply affects an economy?
The sum of money present in any economy is referred to as the money supply. This money circulation isn’t something small. Instead, it is a lot more than the coins and bills present in the economy. It is a fact that the physical money circulating in a developed economy is less than one-tenth of the money present in the whole economy.
The remaining percentage of the money in circulation is all digital or virtual. This money supply includes the unused line of credit in any credit card account or the amount existing in larger industries’ commercial bank accounts. Money can be used as coins and bills to purchase goods and services.
Economists keep a close eye on the money circulated in any economy as it tells about an economy’s purchasing power. The purchasing power is the quality or value of goods and services that can be bought with a currency’s unit. This tells about the possible demand for products and services.
How Fed control Interest Rates?
The Federal Reserve Board is often called the Fed of any economy and has a job to maintain the money supply by taking different measures. The most common way to control the money circulation is through buying and selling treasury bills.
How do treasury bills work? Treasury bills work differently: once a treasury bill is bought, a business is lending money to the government. The term security is to invest in any medium like bonds, bills, or stocks. When it comes to an economy, there is a particular face value of treasury bills, which tells their actual worth. However, they are sold below their real worth.
The selling and buying results in the injection or withdrawal of money into the economy. The quickest way to control the money supply is by adjusting the interest rates. With a lot of money being circulated in the economy, borrowing becomes much cheaper. However, when the money supply is low, many institutes and individuals will be short on cash to lend out. In this case, borrowers must provide higher interest rates to borrow. The interest rates are usually mentioned as the cost of money in the market.
What relation do Interest Rates and Stocks have?
A rise in the money supply and a drop in interest rates makes stocks a lot more attractive to invest in. When investors can get low levels of return by lending money, even if it is a bank, corporation, or buying treasury bills, such investors change their direction and lean towards the stock. Such actions of an individual or investor are called chasing yield.
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