Chapter 11 Flashcards

Question

What can serve as money what is fiat money?

Answer 1

Money, such as paper currency, that is authorised by a central bank or government body and that does not have to be exchanged by the central bank for gold or some other commodity money. ## Footnote e.g. Australian dollars are fiat money, the **RBA is not required to give you gold or silver for your dollar notes**

Answer 2

the zimbabwe government decided to pay for all of its expenses by printing more and more money. The faster the government printed money, the faster prices rose

Answer 3

they could not obtain US dollars, local Coke bottlers were not able to import from the United States the concentrated syrup used to make the soft drink.

Answer 4

currency ## Footnote Notes and coins held by the private non-bank sector.

Answer 5

it is the narrowest definition of money supply ## Footnote is composed of currency plus the **value of all demand deposits with banks**

Answer 6

deposits in financial institutions that are transferable by cheque, by debit cards at EFTPOS terminals and through electronic transfer between accounts. They are called demand deposits because they are **available on demand,** and are repayable on demand in notes and coins.

Answer 7

M1+ all other deposits of the private non-bank sector with domestic and foreign-owned banks operating in Australia

Answer 8

Includes certificates of deposit, term deposits and deposits with banks from building societies, credit unions and other authorised deposit-taking institutions (ADIs)

Answer 9

Certificates of deposit are large savings deposits written in certificate form that also pay high interest and behave like commercial bills.

Answer 10

comprises M3, plus deposits with n**on-bank deposit-taking institutions** MINUS holdings of currency and deposits of **non- bank depository corporations.**

Answer 11

§ finance companies, money market corporations and cash management trusts - they are registered with APRA

Answer 12

Credit is not a form of money, but it is now used by the RBA as the main measure of monetary movements in Australia. enables the RBA to determine in general **whether more funds are being loaned**, or whether there has been a contraction in the volume of funds advanced.

Answer 13

loans, advances and bills provided to the private non-bank sector (individuals and firms) by all financial intermediaries—not just ADIs

Answer 14

when you buy something with a credit card *_you are in effect taking out a loan from the bank that issued the credit card._* Only when you pay your credit card bill at the end of the month—usually at an ATM or via the Internet or telephone from your bank account—is the transaction complete.

Answer 15

accept deposits and make loans. By doing this they create demand deposit accounts, from which money can easily be withdrawn ‘on demand’.

Answer 16

building societies and credit unions

Answer 17

net worth value of company if all assets were sold and all liabilites were paid

Answer 18

deposits that a bank has retained, rather than loaned out or invested by, for instance, buying a government bond.

Answer 19

Banks keep reserves either physically within the bank, as vault cash, or on deposit with the RBA

Answer 20

safeguard against loan losses, adverse economic trends and excessive withdrawals by depositors which could cause the bank to become insolvent.

Answer 21

Banks make consumer loans to households and commercial loans to businesses.

Answer 22

A loan is an asset to a bank because it represents a promise by the person taking out the loan to make certain specified payments to the bank.

Answer 23

Deposits include savings accounts, cheque accounts and certificates of deposits.

Answer 24

Deposits are liabilities to banks because they are owed to the households or firms that have deposited the funds If you deposit $100 in your savings account, the bank owes you the $100 and you can ask for it back at any time.

Answer 25

banks usually keep 10 per cent of deposits as reserves. **Because banks do not earn interest on reserves** they have an incentive to loan out or buy securities with the other 90 per cent. Save-IT can keep $100 as reserves and loan out the other $900, which represents excess reserves.

Answer 26

The initial $1000 in currency you deposited into your savings account has been turned into $1900 in savings account deposits—a net increase in the money supply of $900.

Answer 27

buyer pays by writing a cheque on his bank account at Save-IT. the seller will now deposit the cheque **into her savings account** Thrifty Bank Once she deposits the cheque, Thrifty will send it to Save-IT Bank to be cleared and collect the $900 Save-IT has lost $900 in deposits—the amount loaned to the motorcycle buyer—and $900 in reserves—the amount it had to pay Thrifty when Thrifty *sent it the motorcycle buyer’s cheque.* Thrifty has an increase in account deposits of $900—**the deposit of the cheque for $900 by the motorcycle selle**r—and an increase in reserves of $900—the amount it received from Save-IT..

Answer 28

The ratio of the amount of deposits created by banks to the amount of new reserves RR = bank's reserve ratio

Answer 29

RR = 0.1 Simple deposit multiplier = 1/0.1 = 10

Answer 30

Because the bank now has your $5000 in currency in its vault, its reserves (and therefore its assets) have risen by $5000. your savings account balance increases by $5000 because the bank owes you this money, the bank’s liabilities have also risen by $5000.

Answer 31

reserve ratio - 10% so bank 5000x 0.1 = 500 kept as reserves and loan the remainder 4500 loans go up by 4500 (they are an asset b/c borrowers owe the bank) + saving deposits of the borrower go up by 4500

Answer 32

Once Save-IT sends the cheque written by the borrower to Thrifty, Thrifty loses $4500 in reserves and Save-IT gains $4500 in reserves. The $4500 is also deducted from the account of the borrower.

Answer 33

when a $5000 deposit in currency was received, it was in the bank vault, not earning any interest Now $4500 of the $5000 has been loaned out and is earning interest. These interest payments allow Thrifty to **cover its costs and earn a profit,** which it has to do to remain in business.

Answer 34

Save-IT now has an increase in deposits of $4500, resulting from the cheque being deposited, and an increase in reserves of $4500. Save-IT now has excess reserves as a result of this transaction and a strong incentive to lend them out in order to earn some interest.

Answer 35

Change in money supply = increase in demand account deposits - decline in currency in circulation 50,000 -5000 = 45000

Answer 36

an increase in reserves in the banking system leads to the creation of new deposits and therefore an increase in the money supply

Answer 37

1. banks may hold excess reserves - not necessarily keep only 10% in reserves assumed under teh simplied deposit multiplier 2. households and firms do not deposit all their money

Answer 38

when Save- IT makes the initial $900 loan to the borrower who wants to buy a used motorcycle, **the seller of the motorcycle** **cashes the cheque and spends the money, instead of depositing it in her bank account**. In that case Thrifty Bank does not receive any new reserves and does not make any new loans.

Answer 39

they make new loans and the money supply expands.

Answer 40

they reduce their loans and the money supply contracts.

Answer 41

## Footnote 1. To maintain the financial integrity and stability of the Australian financial system. 2. To manage and implement the monetary policy.

Answer 42

The interest rate that financial institutions charge on loans or pay to borrow funds in the overnight money market.

Answer 43

a shortage or a surplus of funds

Answer 44

there will be an increase in demand for overnight funds --\> cash rate rises

Answer 45

increase the supply of funds (a cash surplus) on the overnight money market, and put downward pressure on the cash rate.

Answer 46

The RBA purchasing or selling financial instruments such as Commonwealth Government Securities and private bonds and securities, either by outright purchase or sale, or by the use of repurchase agreements.

Answer 47

when the RBA offers to buy (or sell) CGS and other eligible financial instruments, from banks or other authorised financial dealers, **provided the same banks or dealers are prepared to repurchase (or resell)** them in the immediate future, often in a few days’ time, at a price agreed at the outset.

Answer 48

offset daily liquidity changes to keep interest rates at the same level.

Answer 49

the value of $AU is usually determined by international market forces RARE FOR RBA TO intervene if the RBA wanted to increase the value of $AU, it will purchase $AU in foreign currencies to increase demand for $AU --\> REDUCING FOREIGN RESERVE STOCK OR to decrease the value of $AU, it could sell $AU to increase the supply of $AU on foreign currency markets --\> INCREASING FOREIGN RESESERVE STOCK

Answer 50

he RBA also has the role of investing its stock of foreign reserves—such as foreign currency and bonds—and is also the custodian of Australia’s gold reserves.

Answer 51

A theory of the connection between money and prices that assumes that the velocity of money is constant According to the theory, in the long run, if the quantity of money increases the price level will also rise. formalised by Irving Fisher

Answer 52

The average number of times each dollar in the money supply is used to purchase goods and services which are included in GDP.

Answer 53

shows the relationship between changes in the money supply and changes in inflation. Inflation rate = growth rate of the money supply + growth rate of velocity – economic growth rate

Answer 54

velocity will be zero; its percentage change from one year to the next will always be zero. Inflation rate = growth rate of the money supply – economic growth rate

Answer 55

1. If the **money supply grows at a faster rate than economic growth** there will be inflation. 2 If the **money supply grows at a slower rate than economic growth** there will be deflation. 3 If the **money supply grows at the same rate as economic growth** the price level will be stable, and there will be _neither inflation nor deflation._

Answer 56

No, from year to year there can be significant fluctuations in velocity --\> predictions of the quantity theory of money do not hold every year

Answer 57

most economists agree that the quantity theory provides a useful insight into the long-run relationship **_between the money supply and inflation:_** in the long run, inflation results from the money supply growing at a faster rate than the economic growth rate. BUT there is not always a clear correlation between the growth rate of the quantity of money and the rate of inflation

Answer 58

central banks increasing the money supply at a rate far in excess of the economic growth rate

Answer 59

money to lose its value so rapidly that households and firms avoid holding it

Answer 60

very slow economic growth, if not severe recession.

Answer 61

governments often want to spend more than they are able to raise through taxes

Answer 62

by borrowing through selling government bonds to the public.

Answer 63

difficulty selling bonds because the **public is sceptical of their ability to pay back** the money (corruption)--\> governments in developing countries will force their central banks to purchase them --\> when a **central bank buys bonds the money supply will increase,** which can be inflationary

Answer 64

Post-WWI: germany had to make reparations (payments to the Big 4). * tax revenue was not enough to cover normal spending and reparations * German gov sold bonds to the Central Bank --\> increased money supply --\> cause hyperinflation (consistent with the qty theory)

Answer 65

Inflation = growth rate of money supply - economic growth rate Inflation = 4-2 =2