Question

If the money supply is given as

M_s = S(r,R)

where Mr = real interest rate and R = central bank created reserves...

What is the meaning/interpretation and expected sign of ∂MS/∂r and ∂MS/∂R?

Answer 1

∂MS/∂r : This is the first order derivative . It shows change in money supply due to unit change of real interest rate . So when real interest rate increases people will borrow less money and save more . So money supply declines in the economy . Hence , the expected sign is negative . They are inversely related .

∂MS/∂R : A central bank creates reserves for the usage of commercial bank . So when such reserves increase there is more money in the hands of central bank to lend to commercial banks . So money supply increases . The expected sign is positive . There is direct relationship between money supply and R .