4.4

Question 1

What is the money markets ?

Answer 1

• market for short term loan finance for business & households
• money is borrowed/lent normally for up to 12 months
• includes inter-bank lending ie. the commercial banks providing liquidity for each other
• eh. short term govt borrowing eg. 3-12 moths Treasury Bills (to help fund the govt’s budget deficit

Question 2

What is the capital market ?

Answer 2

• market for medium-longer term loan finance
• the markets where securities such as shares, and bonds are issued to raise medium to long-term financing
• includes raising of finance by the govt through the issue/sale of medium-term - long term
  govt bonds eg.10 year & 20-year bonds (loans)

Question 3

What is foreign exchange market ?

Answer 3

• a market where currencies (foreign exchange) are traded. There is no single currency market – it’s made up of the thousands of trading floors
• gains or losses are made from exchange rates – speculative activity in the currency market is often high
• the spot exchange rate is the price of a currency to be delivered now, rather than in the future
• the forward exchange rate is a fixed price given for buying a currency today to be delivered in the future

Question 4

What is a financial market ?

Answer 4

• any exchange that facilitates the trading of financial instruments eg. stocks, bonds, foreign exchange, or primary commodities like oil/gas

Question 5

What are the key roles of financial markets ?

Answer 5

1. to facilitate savings by businesses/households: offering a secure place to store money + earn interest (allows households to smooth their consumption over time & build up deposits/funds for large purchases)
2. to lend to businesses/individuals: provide an intermediary between savers & borrowers
3. to allocate fund to productive uses: they allocate capital to where the risk adjusted rate of return is the highest
4. to facilitate the final exchange of goods/services: provide payment mechanisms
5. to provide forward markets in currencies & commodities: forward markets allow agents to insure against price volatility
6. to provide a market for equities: allowing businesses to raise fresh equity to fund investment & growth

Question 6

Characteristics of money ?

Answer 6

• durability ie. it needs to last
• portable ie. easy to carry around, convenient, easy to use
• divisible ie. it can be broken down into smaller denominations
• hard to counterfeit ie. it can’t easily be faked/copied
• must be generally accepted by a population
• valuable – generally holds value over time

Question 7

Key functions of money ?

Answer 7

1. medium of exchange: allows goods/service to be traded w/o the need for a barter system
2. store of value: its value can be retrieved at a later date meaning that people can save now to fund spending at a later date
3. unit of account: allows the value of something to be expressed in an understandable way that allows the value of items to be compared
4. standard of deferred payment: the expressing of the value of a debt ie. if people borrow today,
   they can pay back their loan in the future in a way that is acceptable to the person who made the loan

Question 8

What is narrow money ?

Answer 8

• a measure of the value coins & notes in circulation & other money equivalents that are easily convertible into cash such as short-term deposits in the banking system

Question 9

What is broad money ?

Answer 9

• a measure of the total money held by households & companies in the economy
• made up mainly of commercial bank deposits (essentially IOUs from commercial banks to households & companies) and currency (mostly IOUs from the central bank)