3rd video: Money supply process Flashcards
3 functions of money? 4.3
—Storage of Value:
Explanation: Money serves as a store of value by allowing individuals to hold wealth in a durable and transferable form. Instead of relying on perishable or bulky assets, individuals can store their wealth in the form of money.
Importance: This function enables people to save for the future and defer consumption.
—Unit of Account:
Explanation: Money functions as a unit of account by providing a common measure for expressing the value of goods, services, and assets. Prices are denominated in a specific monetary unit, allowing for standardized comparisons.
—Transaction Facilitation:
Explanation: Money acts as a medium of exchange, facilitating transactions by providing a universally accepted means for buying and selling goods and services.
Importance: In the absence of money, individuals would need to engage in barter, exchanging goods and services directly.
The “barter problem” refers to the challenges and inefficiencies associated with a barter system, where goods and services are exchanged directly without using money as an intermediary. In a barter system, two parties need to have goods or services that the other party desires, creating a double coincidence of wants
Fractional reserve banking vs full reserve banking?
—Fractional Reserve Banking:
Definition: In a fractional reserve banking system, banks are only required to hold a fraction (a percentage) of their customers’ deposits in reserve. The rest of the deposits can be loaned out to borrowers -> that’s why money multiplier is huge. Reserve Ratio: The reserve ratio is the percentage of deposits that banks are required to hold in reserve. The remainder, known as the excess reserves, can be used for lending or other investment activities. (It is important if currency is held by the public, or no currency held by the public)
Money multiplier is = reserve coefficient (usually 0.2 for fractional reserve banking), so we take a reverse of that.
Problem: if everybody wants to withdraw his/her deposit, the bank cannot service the withdrawals (bank run risk)
—Full Reserve Banking:
Definition: In a full reserve banking system, banks are required to hold 100% of customer deposits in reserve. This means that banks cannot use customer deposits for lending or other investment activities. Money multiplier is 1 (he mentioned that)
Full-reserve banking (also known as 100% reserve banking, or sovereign money system) is a system of banking where banks do not lend demand deposits and instead, only lend from time deposits. It differs from fractional-reserve banking, in which banks may lend funds on deposit, while fully reserved banks would be required to keep the full amount of each customer’s demand deposits in cash, available for immediate withdrawal.
Money supply in easy terms?
Monetary base in easy terms?
—Money supply refers to the total amount of money circulating in an economy. In easy terms, it’s the sum of all the money that people, businesses, and the government use for transactions. Money supply includes both physical currency (like coins and paper money) and digital forms of money (like bank deposits and electronic transfers).
M = CU + DEP
Money supply = currency in circulation + deposits
—Think of the monetary base as the starting point of all the money in an economy. It’s like the foundation of a building. This base is made up of two main parts:
Cash in Circulation (C): This includes all the physical money that people carry in their wallets and use for daily transactions, like coins and banknotes.
Bank Reserves (R): These are the funds that banks are required to keep in their accounts with the central bank. It’s like a savings account that banks have with the “big bank” in the country.
M0?M1?M2?M3? 4.9
M0 (base money) = currency in circulation
MB (monetary base) = currency in circulation + reserves (thus this is not considered as currency in circulation, because of reserves…)
M1 = M0 + overnight deposits
M2 = M1 + deposits with an agreed maturity up to 2 years + deposits redeemable at a period of notice up to 3 months. (savings deposits)
M3 = M2 + time deposits (deposits blocked in a bank for a certain period)
Recheck all
Overnight deposits refer to funds that are deposited in a financial institution, such as a bank, for a very short period, typically overnight. These deposits are characterized by their short-term nature, as they are made with the expectation of being withdrawn or used by the depositor in the near future.
In M3 degree of liquidity decreases. Most liquid is central bank money, and least liquid is M3.
Time deposit? Saving deposit? Sight deposit? Transaction accounts? .10.11
—“Sight deposits” refer to a type of deposit account in a bank that allows the account holder to withdraw funds on demand or “at sight.” These deposits are also commonly known as “demand deposits” or “sight accounts.” The term “sight” implies that the funds are available for withdrawal whenever the account holder requests it, without any significant delay. (Deposits that banks themselves hold at central bank!!!) In Switzerland
—Time Deposits:
Definition: Time deposits, also known as term deposits or certificates of deposit (CDs), are accounts with a fixed term or maturity date. Customers agree to leave their funds deposited for a specified period, ranging from a few months to several years.
Access to Funds: Withdrawals before the maturity date may result in penalties or loss of interest. Time deposits are intended for customers who can commit to leaving their funds untouched for the agreed-upon term. (Usually one year, two years, three years)
—Savings deposits: you don’t need to block your account for a specific period of time, but the money is not immediately available. Normally there is a notification period for you to be able to withdraw the money (one week, two weeks, one month, but not one year or two) (More liquid than time deposits)
—Transaction accounts (most liquid): Highly liquid accounts designed for frequent access, often through checks or debit cards, facilitating day-to-day financial transactions without interest (Like UBS transaction account).
4.12: explain the dip in 2022 January
All of this is mainly because cash doesn’t give you any interest rates, so most money is kinda of in deposits?
Foreign currency reserves? 4.13 benefits/drawbacks?
Foreign currency reserves, also known as foreign exchange reserves or forex reserves, are assets held by a country’s central bank in foreign currencies. These reserves play a crucial role in supporting the stability of a nation’s currency and its overall economic and financial system. Here are key points about foreign currency reserves:
Purpose: The primary purpose of foreign currency reserves is to provide a buffer against external economic shocks and to maintain stability in the country’s currency exchange rates. Reserves can be used to intervene in the foreign exchange market to influence the value of the national currency.
Composition: Foreign currency reserves are typically held in various forms, including foreign currencies, government securities denominated in foreign currencies, and certain international financial assets. The composition of reserves may vary, and central banks often diversify their holdings to manage risk.
Sources of Reserves:
Trade Surpluses: Countries that export more than they import may accumulate foreign currency reserves from trade surpluses.
Foreign Direct Investment (FDI): Inflows of foreign investment can contribute to foreign currency reserves.
Borrowing: Some countries may borrow foreign currencies to build up reserves.
Importance in Monetary Policy: Foreign currency reserves are an important tool in monetary policy. Central banks can use reserves to stabilize the domestic currency, control inflation, and manage the balance of payments.
Extended money supply formula? 4.8
M = (cu + 1 / cu + res) x BASE
BASE = CU + RES
(Core slide 1 of this topic) Central Bank Policy Instruments. Explain: Reserve requirements, Interbank funding market, Open market operation,Discount window. 4.15
—Reserve requirements: Central Bank require a certain minimal reserve-deposit ratio/requirements (res); by setting requirements Central Bank can influence the money supply process. And can either tighten or loosen monetary condition. (Primary tool in China)
—Interbank funding market: Private banks can borrow and lend to each other to meet the reserve requirements for example. Central bank can manage the monetary base to maintain a specific funding rate.
—Open market operation:
a) FED: Sells currency for short-term government securities (T-bills), thus influencing the
interbank lending conditions b) ECB (European Central Bank): Fixed or variable rate tenders are used in a weekly auction
—Discount window:
FED: All banks in US can borrow money if they don’t find the necessary funds in the interbank market, they can direct borrowing form the FED at a penalty rate (1% higher than federal funding
rate)
?ECB: Standing facility with a rate at which banks can borrow directly (0.5% higher than the MRO rate)
ECB: European Central Bank
The Great Depression
Questions 1: How did it start? What were the policy mistakes? Question 2: Why did it become such a deep recession (depression)?Question 3: Why did it become a global depression? How was it transmitted internationally?
The Great Depression (1929)
Questions 1: How did it start? What were the policy mistakes?
✓ FED reduced money supply in 1928 to reduce stock market speculation
✓ Did not react to liquidity shortages when bank run occurred (Central bank is: lender of last resort role), massive bank failures
Question 2: Why did it become such a deep recession (depression)?
✓ Interest rate channel (went up, bad for borrowing money)
✓ Employment channel (dropped massively)
✓ Exchange rate channel (US currency depreciated)
Question 3: Why did it become a global depression? How was it transmitted internationally?
✓ Gold standard: Most currencies were pegged to gold
✓ CB (central banks) could leave gold standard (devalue their currency, means that you have to increase interest rates) or had to increase interest rates to avoid capital flight to the U.S. (which leads to job destruction and rise in unemployment rate)
✓ Monetary contraction became global because CBs avoided devaluation by raising rates (raising rates (interest) - you contract domestic demand) (which leads to job destruction, increase in unemployment rate, etc.)
Slide 4.17 is really really important to know/understand!
Money supply formula when 1) public puts all money as deposits vs 2) when public can withdraw deposits in cash? .8
1) ( 1 / res ) * BASE
2) CU +1 / CU + RES
Is it the same as currency in circulation + deposits.
Why did Swiss monetary aggregates started to decline?
Switzerland started to raise interest rates, so borrowing started to decrease and thus monetary aggregates started to decline.
Foreign currency reserves? .13 FX RESERVES
Foreign currency reserves are assets held on reserve by a central bank in foreign currencies, which are used to back liabilities on their own issued currency as well as to influence monetary policy. These reserves typically include foreign banknotes, bank deposits, bonds, treasury bills, and other government securities and provide a means to repay international debt obligations and manage currency exchange rates.
Money supply formula? .8
M= (cu + 1)/(cu + res) * BASE
