Explain why you think the Federal Reserve Bank tracks M1 and M2.

M1 and M2 are measures of the money supply in an economy. The money supply refers to the total amount of currency and other liquid assets circulating within a country's economy. The Federal Reserve Bank uses these measurements to track the money supply for the United States. M1 represents the most liquid components of the money supply, such as currency in circulation, demand deposits, and other checkable deposits. These assets can be easily and immediately converted to cash for transactions. M2 is a broader measurement of the money supply that includes M1 as well as less liquid assets. In addition to everything found in M1, M2 also includes savings deposits, small time deposits, and certain types of money market funds. These assets are not as quickly accessible, but can still be converted into cash with a little more effort.

The Federal Reserve Bank is responsible for maintaining the stability of the United States economy by implementing monetary policy. This includes controlling inflation, stabilizing prices, and promoting full employment. In order to achieve these goals, the Fed needs to have an accurate understanding of the available money supply in the economy. By tracking M1 and M2, the Fed can get insights into the liquidity of the economy. M1 helps the Fed monitor the immediate spending capacity of consumers and businesses, whereas by examining M2, the Fed can better understand savings and investment trends. Here are the reasons why the Federal Reserve Bank tracks M1 and M2: 1. Controlling Inflation: If the money supply grows too quickly, it can lead to inflation, where the general price level of goods and services increases over time. By tracking M1 and M2, the Fed can identify trends in the money supply, allowing it to adjust monetary policy accordingly to maintain price stability. 2. Adjusting Monetary Policy: The Fed can change monetary policy by adjusting interest rates, which in turn affects the money supply. By analyzing M1 and M2 data, the Fed can determine the effectiveness of its monetary policy in achieving the desired level of money supply growth and make the necessary adjustments. 3. Economic Forecasting: Knowing the money supply helps the Fed forecast future economic trends, as changes in M1 and M2 can provide early indications of economic growth or contraction. This helps the Fed anticipate changes in the economy and take preemptive measures to maintain stability. 4. Financial Stability: Monitoring M1 and M2 helps the Fed maintain financial stability as it can monitor whether there is enough money to support transactions within the economy. This is important to help prevent issues such as bank runs, liquidity crises, and credit crunches. In conclusion, the Federal Reserve Bank tracks M1 and M2 to help them better understand the condition of the economy, maintain price stability, and make informed monetary policy decisions to promote overall economic health and growth.