The monetary base is the amount of currency in circulation in the hands of the public or bank deposits held as central bank reserves. The money in circulation is cash. The deposits at the Fed could either be central bank reserves or cash deposits from the commercial bank customers.
When the Fed and other central banks engage in Quantitative Easing (QE), it has the ability to expand the M0. This is not legal tender meaning that the Fed is not creating US Dollars (USD). Those are expanded by the commercial banking system making loans.
Quantitative Tightening (QT) will contract the monetary base as it removes the reserves from the balance sheets of the commercial banks. Simultaneously, the liability is eliminated from the Fed's balance sheet.
This is done as part of the central bank conducting open market operations. It is the monetary policy implemented by these entities to try maintain bank stability. If commercial banks do not have enough reserves to meet withdrawals could result in a bank run.
The monetary base differs from the money supply. Under fractional reserve banking, many feel that the monetary base is vital. Reserves on the commercial bank's balance sheet can be utilized for the lending practices within the fractional reserve banking system.
Money supply is broken down into M1, M2, and M3. The main difference is these include assets that do not have the liquidity as the monetary base.
