Active Money

Active money definition

The accepted active money definition encompasses all currency currently in circulation; this includes coins and paper money held by consumers and businesses, but excludes money held by banks, financial institutions, and the Federal Reserve. The amount of active money available in the U.S. economy is determined by the Federal Open Market Committee and is usually based on the current economic conditions at the time. By increasing the amount of active money in circulation, the government is actually increasing the amount of cash available throughout the system.

Active money circulation

Typically, a decrease in the amount of active money available within the economy leads to what is referred to as a “tight money” situation where banks are less willing to make loans and companies are less likely to invest in new projects. This is due to the necessity for banks to draw on their existing cash reserves in order to finance the loans, rather than using cash already in circulation. Alternatively, increasing the amount of active money available to consumers and businesses must be practiced with caution, since overwhelming the market with a large influx of active money can lead to an inflationary pattern wherein the value of cash is decreased. In a healthy economy, the level of active money circulation is fairly high as loans are disbursed and repaid; consumers purchase items, providing income to companies that use that money to pay salaries and repay loans, ensuring that the economic cycle continues unabated.

Control of active money

The Federal Open Market Committee controls the amount of active money in the financial system through a number of methods; one of the most crucial is the setting of the discount rate or prime rate the Federal Reserve Bank charges to its member banks. This, in turn, affects the rates that banks charge for loans to consumers and companies, and affects the amount of active money that is available throughout the system. While banks can obtain funding from other sources, the Federal Reserve Bank is the primary influence on interest rates and exerts the most significant control over the amount of active money in circulation throughout the economy.