Monetary system

A monetary system is the dynamic interaction of institutions concerned with the provision and management of monetary assets designated as legal tender or otherwise regulated by the state. Today’s system of fiat money has as its main institutions: the Central Bank, commercial banks, the Ministry of Finance or Treasury, and the currency and bond markets.

Monetary assets are created by banks lending to customers, who then create more deposits or exchange the money for goods and services, so that others deposit the money and so on.

The Central Bank does not control the supply of money; instead it imposes conditions on the commercial banks, such as a requirement to hold reserves in the Central Bank. They are paid interest on those reserves, which is decided by the Central Bank (Banks’ Base Rate). The commercial banks must maintain a balance between lending and borrowing to remain solvent.