Money, Banking, Inflation and Monetary Policy
This domain links money creation to inflation and to policy inside the CFA franc zone. Candidates must know BEAC's instruments and their limits under a fixed peg.
Money and money supply
- Functions: medium of exchange, unit of account, store of value, standard of deferred payment. Requisites include acceptability, divisibility, portability, durability and scarcity.
- M1 is currency plus demand deposits; broader measures add savings and time deposits. Credit creation by commercial banks multiplies base money; the simple deposit multiplier is one divided by the reserve ratio.
- Quantity theory: MV = PY. If velocity and real output are constant, money growth passes into prices.
Banking and BEAC
- BEAC issues the CFA franc, acts as banker to governments, holds foreign reserves, supervises payment systems and conducts CEMAC monetary policy.
- Commercial banks intermediate and create deposits, but must hold reserves and face liquidity and prudential rules.
Inflation
- Demand-pull inflation follows excess aggregate demand; cost-push follows wage, fuel or import price rises. Imported inflation is important in Cameroon because rice, wheat and fuel are largely imported.
- Effects: creditors and fixed-income earners lose, debtors gain when inflation is unanticipated, exporters lose competitiveness if domestic costs outpace trading partners, and menu and shoe-leather costs rise.
Monetary policy
- Instruments available to BEAC: the policy interest rate, reserve requirements, open-market operations, refinancing windows and moral suasion.
- Constraints: the franc is pegged to the euro at a fixed parity with convertibility guaranteed by the French Treasury, so interest rates cannot diverge widely from euro-area rates; shallow money markets, fiscal dominance and a large informal sector weaken transmission.
Worked example
A commercial bank receives a new deposit of 1,000,000 XAF and the reserve ratio is 12.5 per cent.
- Required reserves = 125,000 XAF; excess reserves = 875,000 XAF.
- Total deposits created = 1,000,000 divided by 0.125 = 8,000,000 XAF; new credit = 7,000,000 XAF.
- If BEAC raises the reserve ratio, the multiplier falls, credit contracts and demand-pull pressure eases.
Traps that cost marks
- Confusing money with income or wealth.
- Claiming inflation harms debtors; unanticipated inflation helps them.
- Treating devaluation as a BEAC monetary instrument; the parity is fixed.
- Assuming the quantity theory always holds, ignoring velocity and output changes.
- Forgetting that higher policy rates may not slow credit where banking coverage is thin.