Chapter 10

Question 1

What are the 3 functions of money?

Answer 1

1. medium of exchange
2. unit of account (used to post prices & record debts)
3. store of value (transfer purchasing power)

Question 2

What does liquidity mean in terms of money?

Answer 2

the ease with which an asset can be converted into the economy’s medium of exchange - money is the most liquid

Question 3

What is commodity money?

Answer 3

money that would have value even if it were not used as money; has intrinsic value– gold, cigarettes

Question 4

What is fiat money?

Answer 4

money without intrinsic value that is used as money because of government decree– paper bills

Question 5

What is currency?

Answer 5

the paper bills and coins in the hands of the public plus personal cheques and debit cards (demand deposits)

Question 6

What are the 4 jobs of the Bank of Canada?

Answer 6

1. issue currency
2. act as a banker to commercial banks
3. act as a banker to the Canadian government
4. controls the quantity of money supply

Question 7

What is monetary policy?

Answer 7

the setting of the money supply by policy makers in the central bank

Question 8

What is fractional reserve banking? What is a reserve ratio?

Answer 8

a banking system in which banks only hold a fraction of deposits as reserves
the fraction of deposits that banks hold as reserves
eg. RR= 10%

Question 9

What is fractional reserve banking? What is a reserve ratio?

Answer 9

a banking system in which banks only hold a fraction of deposits as reserves
the fraction of deposits that banks hold as reserves
eg. RR= 10% therefore for every $100 deposited, $10 is held in reserves and the other $90 is loaned out

Question 10

What is the money multiplier?

Answer 10

the amount of money the banking system generates with each dollar of reserves; the recipricol of the reserve ration
eg. if RR = 10% - 1/10 so MM = 10

Question 11

The higher the reserve ratio, the less of each deposit banks loan out and the smaller the money mulitplier

Answer 11

RR = 5% - 1/20 -- MM = 20 
RR = 20% - 1/5 -- MM = 5

Question 12

What is bank capital?

Answer 12

the resources a bank’s owners have put into the institution (issuing equity)

Question 13

What is leverage?

Answer 13

the use of borrowed money to supplement existing funds for purposes of investment

Question 14

What is a leverage ratio?

Answer 14

ratio of assets to bank capital
eg. $1000 total assets / $50 bank capital OR 20
every $1 of capital the bank has $20 of assets

Question 15

What are the 3 methods the BofC uses for controlling money supply?

Answer 15

1. changing the overnight rate
2. open market operations
3. changing reserve requirements

Question 16

What is a the bank rate?

Answer 16

the interest charged by the BofC on loans to the commercial banks

Question 17

What is the overnight rate?

Answer 17

the interest rate on very short term loans between commercial banks

Question 18

Increase the overnight rate

Answer 18

reduce the quantity of reserves in the banking system which reduces money supply

Question 19

what are open market operations?

Answer 19

the purchase or sale of GofC bonds by the BofC

Question 20

what are open market operations?

Answer 20

the purchase or sale of GofC bonds by the BofC

Question 21

Purchase if GofC bonds by the BofC

Answer 21

increase of money supply b/c BofC puts money in the bank to purchase them

Question 22

What is sterilization?

Answer 22

the process of offsetting foreign exchange market operations (purchase and sale of foreign money by BofC) with open market operations (purchase and sale of governemnt bonds) so that the effect of the money supply is cancelled out

Question 23

What are reserve requirements?

Answer 23

regulations on the minimum amount of reserves that banks must hold against deposits

Question 24

increase reserve requirements

Answer 24

less to loan out, so decrease money supply, raises the reserve ratio, decreases the money multiplier