Chapter 15: Money & the monetary system

Question 1

What is a barter Economy?

Answer 1

the exchange of G+S without money.

the problem with this is that it causes double coincidence and indivisability.

Question 2

What does money do?

Answer 2

1. medium of exchange: used to buy G+S
2. unit of accout: currency
3. Can Store value

Question 3

commodity money

Answer 3

any type of money that can be exchanged for a fixed amount of something

Question 4

Fiat money

Answer 4

it is legit becasue the government says so
Legal tender - official money that we used in our country - used to pay bills
** coins are conditional legal tender **
types of Fiat money
1. currency - very liquid
2. demand deposits - checks and debit
3. notice deposits - savings
4. canadian saving bonds - war bond
5. money market mutual bonds - less liquidity

Question 5

What is liquidity?

Answer 5

how easily an asset can be used to pay for G+S
cash is very liquid

Question 6

What does the Bank Of Canada do in our Economy?

Answer 6

1. distributes bank notes
2. lender of last resort
3. fiscal agent for the federal government
4. controls money supply - interest rates

Question 7

What is money supply?

Answer 7

• the quantitiy of money in our country and its purchasing power

Money supply = currency + deposits

controled by the BOC

M1+
- currency outside of banks
- personal & non-personal checkable deposits in banks

M2
- everything in M1+
- personal savings
- term deposits
notice depostis at charter banks
less liquid

Question 8

What do commercial banks do?

Answer 8

they earn profits by lending money to investors and gaining intrest.
they can make risky decisions if interest rates drop beause they have to make profit

Question 9

How do banks create money with money??

Answer 9

money in a bank is a deposit

creating profit by lending out money with the money that they have

Question 10

What is the accounting identity?

Answer 10

Assets = liabilities + Net worth

Question 11

What are demand deposits?

Answer 11

Banks have to hold some money acessable for people if they want to take out money.

Question 12

What are Reserves?

Answer 12

cash deposits in the banks vault
the banks assets

in order to make profit, banks lend out excess reserves and holds on to desired reserves.

Question 13

What is the Reserve ratio?

Answer 13

the fraction of deposits banks hold as reserves.
Reserves / Deposits

Question 14

how is the Money Mutiplier calculated?

Answer 14

it is used to calcualte loans

MM = 1/ reserves ratio (reserves/deposits)

More reserves = less to spend = smaller MM
Less reserves = more to spend = bigger MM

Question 15

What is a bank run?

Answer 15

when many depositors try to withdraw their deposits at the same time because they think the bank is going under.

you can buy deposit insurance to make sure your money is safe in your acount.

Question 16

3 ways the Bank of Canada controls money

Answer 16

1. minimize reserve requirements (%)
2. open - market operations:
   Buy Bonds: Bigger Money supply
   Sells Bonds: Smaller Money supply
3. change in the overnight rate
   - if demand deposits are lower than needed, commercial banks can borrow from the BoC with a 4% interest rate

Question 17

What are some Economic effects of monetary policy?

Answer 17

Liquidity: quantity of money people want to hold is a function of the Real interest rate.

Peoples hold cash depending on:
the interest rate
price level
their income
availability of an ATM

Question 18

Expansionary Monetary policy

Answer 18

combats recessions

interest rates go down, money supply goes up, and AD shifts right

Question 19

contractionary Monetary policy

Answer 19

combats inflation

interest rates go up, money supply goes down, and AD shirts left

Question 20

Benifits of Monetary policy

Answer 20

time lag is shorter than fiscal policy
it affects all of Canada

** you cannot rely on the government to cut interest rates to shift AD to the right, because it will cause inflation.