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Endogenous money theory states that funds will be available to meet credit demand, with reserves replenished as needed. Different branches include central bank endogeneity, fiscal endogeneity, money multiplier, and portfolio endogeneity. The theory relies on banks’ asset and liability practices, and the belief that money is a tool in a barter system.
The theory of endogenous money is that funds will be available in any amount needed to meet the demand for credit. He is fundamentally convinced that bank reserves, such as those supported by the central bank, will be replenished in one area when money reserves run out in another. For example, a loan may reduce a bank’s reserves, but when the customer makes payments on the loan, the levels rise again. The theory of endogenous money is expressed in several branches, each of which describes different characteristics of the flow of money. While the different branches of endogenous money theory support the same general belief, they are not necessarily compatible with each other.
Some of the different types of endogenous monetary theory include central bank endogeneity, fiscal endogeneity, money multiplier, and portfolio endogeneity. Central bank endogeneity is the theory that the monetary authority will provide the funds to help banks meet the demand for credit. Fiscal endogeneity is the theory that the economy, and therefore the banks, will be its own source of funds through the natural cycle of deficits and the debits and credits that drive it. The money multiplier and portfolio endogeneity are based on the belief that the correct balance of investments in the global market will ensure an adequate supply of credit.
According to the endogenous money theory, the supply of funds is determined by the demand for bank credit. For example, if demand is low, reserves are typically high and the monetary authority will withhold funds. When the demand for credit increases, parts of the reserves will be distributed to the banks so that the increase in activity can boost the economy.
In some cases, the central bank will not draw on reserves to meet a credit demand, but often banks will have their own resources to handle this type of situation. For this reason, the theory of endogenous money also depends on the asset and liability practices of banks. Mishandling of these elements can affect the bank’s ability to meet demand, whether or not the central bank provides funds.
Underlying the endogenous money theory is the belief that money is primarily a tool and that the economy is essentially a barter system. The governmental monetary authority presumably increases or decreases the flow of funds from the central bank in order to ensure that this system can flourish. This is done primarily by controlling the flow of money so that prices are neither too high nor too low for the exchange of goods and services to be at a sufficient level of activity.
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