On the basis of the constituents of money, the following four approaches to the definition of money may be discussed:

1. Traditional Approach:

In the traditional approach, money is regarded only as a medium of exchange. The definition of money emphasises its characteristics like spendability, liquidity, etc. According to this approach, money (M) includes currency (C) and demand deposits (DD).

M = C + DD

ADVERTISEMENTS:

All other assets can be considered as money if they are first converted into currency or demand deposits.

2. Monetarist Approach:

This approach is associated with Milton Friedman and other Quantity Theorists or monetarists. Friedman defined money as “a temporary abode of purchasing power”.

According to this view, money can act as a temporary abode of purchasing power, if it is kept in the form of cash, demand deposits or any other asset which is close to currency, i.e., near-money asset.

ADVERTISEMENTS:

Thus, money (M), according to the monetarist approach, includes currency (C), demand deposits (DD) and time deposits (TD):

M = C + DD + TD

Time deposits have been included in money on the basis of two monetarist assumptions: (a) Money has been regarded as having the highest correlation with income, (b) Money includes all those assets which are perfect substitutes and time deposits are very close substitutes for currency and deposits.

3. Liquidity Approach:

ADVERTISEMENTS:

Gurley and Radcliffe Committee have given liquidity approach to the definition of money. In this approach, the scope of the consituents of money has been further widened to include in money the monetarist definition plus the liabilities of non-banking intermediaries.

Thus, money (M) includes currency, (C), demand deposits (DD), time deposits (TD), saving bank deposits (SB), shares (S), bonds (B) etc.

M = C + DD + TD + SB + S + B etc.

This approach adopts substitutability criterion to define money as a weighted sum of currency, demand deposits and their substitutes.

ADVERTISEMENTS:

Currency and demand deposits have been given unit weight; the asets which are completely unrelated to currency and demand deposits have been given zero weight; the assets which are imperfect substitutes of currency and demand deposits have been given weights between zero and one.

4. The Central Bank Approach:

The Central Bank approach takes a step further in extending the scope of the constituents of money by regarding money as the total amount of credit extended by a wide variety of sources.

Thus, according to this approach, money (M) includes currency (C), bank credit (DD), time deposits (TD), credit from non-bank financial institutions (NBFI) and credit from unorganised agencies (CUA):

ADVERTISEMENTS:

M = C + DD + TD + NBFI + CUA