Economic + Monetary Theory Test

Question 1

3 basic economic questions:

Answer 1

What must we produce?
How do we produce?
For whom do we produce?

Question 2

Economic system

Answer 2

An organized way of answering the three questions:
Traditional, Command, Market, Mixed

Question 3

Market

Answer 3

A place where goods and services are voluntarily traded between individuals

Question 4

Who answers the three economic questions in pure command, mixed and pure market economies?

Answer 4

pure command - leader of government
mixed - large consumer choice
pure market economies- individuals in society

Question 5

What is the degree of economic freedom for individuals in pure command, mixed, and pure market economies?

Answer 5

pure command - none, small
mixed - some
pure market economies- total freedom

Question 6

Which system would you like to live in out of pure command, mixed, and pure market economies? Why?

Answer 6

Mixed because it is the most stable as most countries follow this system and I like the amount of consumer choice, while the government still controls some parts, to keep equality.

Question 7

Market Economies:

Answer 7

Tradeoff:
* Economic freedom to pursue what they want to do and control their life
Opportunity Cost:
* Market economies give up security

MARKET
* Governed by the law of supply and demand
* Supply and demand determine prices
* Prices tell businesses what to produce
* Individuals own factors of production
* Large consumer choice
* Economic decisions made by individuals
* Incentives to engage only in profitable ventures
* Invisible hand, not government, regulates economy
* No examples

Question 8

Command Economies:

Answer 8

Trade-off
* Gets protection and basic needs covered

Opportunity Cost
* Command economy gives up their individual freedom

COMMAND
* Economic decisions made by government
* Government owns factors of production
* Government controls income distribution
* Government may regulate prices
* Also called centrally planned economy
* Little affected by downturns and inflations
* Consumer choice may be limited
* Resources may be quickly rerouted
* Examples: China and Cuba

Question 9

Traditional Economy:

Answer 9

Trade-off
* Traditional economy you get security and a stress-free life

Opportunity cost
* Society will not continuously develop, the standard of living might be less and stagnation might occur

TRADITIONAL
* Economic decisions based on customs
Based on subsistence farming, gathering, hunting, and herding
Change may be punished or discouraged
Communities and people are poor
Methods of production and distribution may be inefficient Wealth and assets in hands of few
May be no official currency
Little or no surplus to barter or trade
No price system
May exist as sub-cultures
Examples: Amish and Eskimos*

Question 10

Mixed Economy:

Answer 10

Trade-off
* You get to keep a lot of individual freedoms and you get some security provided
Opportunity Cost
* in a mixed economy, you give up some individual freedoms

MIXED
* Blends market and planned economies
* Private ownership
* Large consumer choice
* Government provides goods and services when there is market failure
* Markets determine price
* Competition diffuses economic power
* Some government regulation
* Examples: U.S., Australia & England

Question 11

Why do trade-offs happen?

Answer 11

Because there is scarcity, and the opportunity cost is what we give up to achieve certain goals.

Question 12

Each of our different types of economies gives something up:

Answer 12

In a market economy…
People give up security (protection)
In return, people receive economic freedom

In a command economy…
People give up their individual freedom
In return, basic needs are covered, and you receive protection

In a traditional economy…
People receive equality within tribes
In return, the society you life in with have low growth and a low standard of living

In a mixed economy…
People give up some but not all freedom
In return, you are given more security and a ‘safety net’

Question 13

What is capitalism?

Answer 13

An economic system where the government allows their citizens (private businesses & consumers) to control the economy, instead of the government. (They are completely removed from involvement, also known as Laissez-faire: When the government remains hands-off of the economy). The free market can regulate itself through supply and demand.

Capitalism:
An economic system characterized by private ownership of capital goods, by investments that are determined by private decision, and by prices, production and the distribution of goods determined mainly by competition in a free market.
Individual business owners make decisions on prices, production and distribution in order to make a profit while competing with others for customers

• Economic system where there is a private ownership of capital goods, and competition in the free market
• Individuals own capital goods
• Who makes the decisions: Individual business owners (on prices, production & distribution while competing)

Question 14

Disadvantages to capitalism

Answer 14

Throughout history, the idea of capitalism has been opposed. “There are not enough winners and too many losers”
No ‘safety net’: the individual is in control of their future and life

Question 15

What is Socialism?

Answer 15

An economic system where the means of production are owned and controlled by the state. Eg: banks, schools, and hospitals are all owned by the government.

• A theory or system of social organization that advocates the vesting of the ownership and control of the means of production and distribution of capital, land, etc in the community as a whole.
• Procedure or practice in accordance with this theory

Economic system AND social + political theory where the means of production is owned by the community as a whole

Who makes the decisions: Individuals own production, distribution, land, workers control and manage community as a whole

Question 16

What does socialism aim to do?
How does it achieve this?

Answer 16

Shorten the gap between the poor and the rich by distributing wealth equally among society. Does this by Tax distribution: More income, more tax. Less income, less tax.

Question 17

Socialism advantages and disadvantages

Answer 17

Advantages:
Smaller gap between rich and poor
Easy access to medical facilities
Free healthcare
Efficient minimum basic income
Assurance of supply for important goods

Disadvantages:
Discouraged to work hard due to less incentives
Lower quality of goods and services
Fewer innovations
Could be abused by corrupt politicians

Question 18

What is communism?

Answer 18

An economic system where the main objective is to create a ‘classless society’.

Key idea: True communism = classless society
Karl Marx states that capitalism = evil. People would be so upset with the idea of capitalism that it would lead to socialism, than to communism. Large government to collect means of production and distribute them evenly. Over time, government involvement decreases as society becomes more equal. Eg: no more fighting over scarce resources: “There would be order”

• A system where goods are owned in common and available to all as needed OR a theory advocating elimination of private property
• Both a system and theory
• No private property
• All goods are owned in common and available as needed
• China, North Korea, try to practice it but it never fully works
• Economic system AND theory where private property is completely gone and everything is shared
• Common ownership amongst society
• Who makes the decisions: Government

Question 19

Disadvantage to communism:

Answer 19

Communism is good on paper, bad in practice on a large scale. (Eg: typically a dictator or large leader will take over the system in place and abuse their power due to human error)

Question 20

Examples of countires in pure command economies, mixed economy and pure market economy:

Answer 20

Pure command economy: North korea/ Former soviet Union
Mixed Economy: Most countries in the world
Pure market economy: no country, 1 country called liberland

Question 21

1. What is Capitalism?
2. What is true capitalism?
3. Who liked this model of the market
4. How does this system work?
5. What is an argument for this idea?

Answer 21

1. A government system in which the government allows its citizens to control the economy, rather than the government.
2. True capitalism - zero government influence.
3. Adam Smith when developed the term “laissez-faire”, which means government hands off.
4. Supply and demand and what the people and businesses want will work themselves out.
   Handle social issues by theory because racist or problematic businesses will be run out of the market, and replaced with more competitive ones.
5. Lot of losers - so people say it is “too harsh” and there are not enough winners.
   The individual is in control of their own future, so people don’t like how there is no safety net and no government support

Question 22

1. Examples:
2. Concepts of socialism:
3. Advantages:
4. Disadvantages:

Answer 22

1. Socialism is an economic system in which the means of production are owned and controlled by the state.

banks
power plants
schools
hospitals all owned by the government

2. It aims to shorten the gap between the rich and the poor by distributing wealth equally
   through taxation distribution
   more income = more tax
   less income = less tax
3. less gap between rich and poor
   assurance of supply for important goods
   easy access to medical facilities
   free healthcare
   efficient minimum base income
4. lower quality of goods and services
   people might be less incentivized to work hard
   fewer innovations
   can be corrupt by politicians

Question 23

1. What is Communism?
2. Who was it created by?
3. Concept:
4. Disadvantages:
5. Advantages:

Answer 23

1. Political/economic system to create a classless society
   true communism = classless society
2. Created by Karl Marx and Friedrich Engels
   talking about political upheaval as much as he was talking about an economic
3. Starts with big government but then eventually government would no longer be needed
   everyone the same = order - so no government would be needed
4. Great on paper, no good examples throughout history
   usually, communism is in place, and human error takes over
5. Smaller-scale society has been successful with communism on some fronts

Question 24

Mercantilism

Answer 24

Was a form of economic nationalism that sought to increase the prosperity and power of a nation through restrictive trade practices. Its goal was to increase the supply of a state’s gold and silver with exports rather than to deplete it through imports. 1 It also sought to support domestic employment. The country exports more than it imports for a favorable balance.

• Economic system where the mother country beneifts from the colonies through expoliting another countires wealth = gold and silver.
• exports rather than imports
• incentives for tarrifs

Question 25

Define mother country

Answer 25

a country that controls its colonies

Question 26

Marxism

Answer 26

Marxism is an economic and political theory that examines the flaws inherent in capitalism; it’s primarily based on the work of German philosopher and economist Karl Marx.
Marxist theories were influential in the development of socialism, which requires shared ownership by workers of the means of production.
Communism outright rejects the concept of private ownership, mandating that “the people,” in fact the government, collectively own and control the production and distribution of all goods and services.

Question 27

Define Import

Answer 27

Decrease in wealth, buying goods from other countries

Question 28

Navagation Acts:

Answer 28

• Countries were to export raw materials only to england or english countries.
• All good coming from the colonies to toher conutries had to pass through england. There they would be taxed, and sent to the colonies.
• Only english ships were to be used for all trade!

Question 29

What were three benefits that the colonies brought to the mother countires in Europe?

Answer 29

gold and silver, food, raw materials

Question 30

What does the mother country do with the raw materials they get from the colonies?

Answer 30

turn them into goods and services through production

Question 31

Marxist theory:

Answer 31

The stage following capitalism in the transition of a society to communism, characterized by the imperfect implementation of collectivist principles. (historical definition)
Would consist of everyone owning the means of production, and workers would control and manage it

Question 32

How are economic decisions made in market economies?

Answer 32

in a market economy individuals generate wealth by pursuing those activities that others value and are willing to pay for. Income earned is then used to buy the clothes, food, and other items needed, wanted or desired.

Question 33

Locations of traditional economies:

Answer 33

In rural communites, tribal life, amnish

Question 34

bartering

Answer 34

direct extanche of one good for another

Question 35

Why is bartering not practical in todays society?

Answer 35

Hard to obtain a good from a producer that deosnt want what you have, complicated and time consuming.

Question 36

In 2500 BC what did the egyptians produce for money?

Answer 36

metal rings

Question 37

Which group of people were the first in the western world to make coins

Answer 37

Lydians

Question 38

Why were coins appealing to western civilizations?

Answer 38

durable, easy to carry, contaned valuable metals, could trust the money you got so you could trade it in the future - had some sort of label on it

Question 39

Most widely used coin during the 18th century

Answer 39

Spanish 8-reale

Question 40

How was change made witht he spanish 8-reale?

Answer 40

split into peices or bits to make change. Half a coin=4 bits 1 quarter = 2 bits

Question 41

How is commodity money determined?

Answer 41

Weight and purity

Question 42

Which nationality was the first to use paper money?

Answer 42

Chinese- throuhg mulberry bark on trees

Question 43

Representative money

Answer 43

Tokens or peices of paper that are not intresically valubale themselves but can be extancged for something else.
Represented a certain weight and purity fo commodity money left over

Question 44

How much was the 1886 silver certificate worth?

Answer 44

$5 of silver

Question 45

Who is responsible for maintianing the integrity of U.S currency by setting monetary policy?

Answer 45

Federal reserve
private banks

Question 45

How is fiat money different than representative money?

Answer 45

Cannot be redemed for a comodity sucha s gold or silver
* fiat money - paper money
* rep. money - can be converted into gold or silver

Question 46

What is money?

Answer 46

Medium of extange that allows you to buy goods and services

Question 47

What are different forms that money has taken in history?

Answer 47

Barter, cattle, cowrie shells, First Metal Money and Coins, Modern Coinage, leather money, the nose, paper currency, potlach, wampum, gold, electronic money.

Question 48

What is wealth?

Answer 48

• based on mercantilism it was gold and silver
• but now it is the ability to produce the goods and services that people want
  Wealth measures the value of all the assets of worth owned by a person, community, company, or country. Wealth is determined by taking the total market value of all physical and intangible assets owned, then subtracting all debts. Essentially, wealth is the accumulation of scarce resources.

Question 49

Are money and currency the same thing?

Answer 49

No, The one major difference between currency and money that many are not conscious of, is the store of value. Currency is not a store of value, in fact, it can even go to zero because of extreme circumstances. It is also volatile because it has no intrinsic value. Money, on the other hand, is a store of value. Gold (which is money) has always been a consistent store of value.

Question 50

Are money and wealth the same thing?

Answer 50

• under mercantilism - yes
  Wealth is: real estate that you own, or a business that you have and the ability you have to survive if you weren’t making any moeny
  Money is just an idea and represented by coins and banknotes. For example, a hundred dollar bill is just a piece of paper. When you buy something in the grocery store, you are exchanging value and idea for the items with money. Therefore, look at money as a tool and a form of exchange. And use the money, your tool to build and grow your wealth. When it comes to wealth, money may or may not be important. For instance, if you have a lot of money, but at the same time you have a lot of debt and high expenses, you may not be wealthy.

Question 51

Store of value

Answer 51

• one of the properties money should have
• not losing significane over time, so people are willing to trade it
• is an asset, commodity, or currency that maintains its value without depreciating.
• Gold and other precious metals are good stores of value because their shelf lives are essentially perpetual.
• A nation’s currency must be a reasonable store of value for its economy to function smoothly.

Question 52

Medium of extange

Answer 52

item that is widely accepted in exchange for good and services

Question 53

Unit of account

Answer 53

widespread acceptance
* if it is accepeted as a medium of exchange and a store of value

Question 54

1. If banks are required to keep 10% of deposits as reserves, how much can they lend out from an initial deposit of $1000?
2. Say that amount loaned in ‘a’ is spent by the borrower, and then deposited in another bank by the merchant who sold the borrower goods and services. How much of this subsequent deposit must be kept and how much can be loaned out?
3. Continue this process 5 or 6 times. How much money could conceivably be created by the banking system from that initial $1000 deposit?

Answer 54

1. They can send out $900
   B) keep 90$ and lend out $810
   C) keep 81 lend 729
   Keep 72.9 lend 656.1
   65.61 lend 590.49
   59.049 lend 531.441
   Keep 53.1441 lend 478.2969

Could create 9000$ pntop of the $1000 dollars of original money

Question 55

crony capitalism

Answer 55

an economic system in which individuals and businesses with political connections and influence are favored (as through tax breaks, grants, and other forms of government assistance) in ways seen as suppressing open competition in a free market
* politicians spends public money not for public interests
* incredibly wastful of tax payer money - dead wieght loss
* distorts the broader economy
* tempts policitians to break the law

Question 56

Difference between crony capatilism and captilasim

Answer 56

• Capatilism- moral, based on a volunteery exchange who agree to the deal becuase it creates value for everybody
• Crony capaitalism is immoral because one of the aprties, the governemtn has been bought off

Question 57

Marxism:

Answer 57

the political and economic theories of Karl Marx and Friedrich Engels, later developed by their followers to form the basis for the theory and practice of communism.
Karl marxism was the start of socialism and had a problem with capitalism. He thought that social classes were permanent and the rich would keep going up and the poor would keep going down. SO he thought a capitalist system would destroy itself and family owned businesses. So he wanted complete equality which was communismand wanted to share everything, everything was owned by the people. In the 1900s his ideas spread, but most of his predictions were wrong.

Question 58

The labor theory of value

Answer 58

• The labor theory of value (LTV) was an early attempt by economists to explain why goods were exchanged for certain relative prices on the market. It suggested that the value of a commodity was determined by and could be measured objectively by the average number of labor hours necessary to produce it. In the labor theory of value, the amount of labor that goes into producing an economic good is the source of that good’s value.
• The best-known advocates of the labor theory were Adam Smith, David Ricardo, and Karl Marx. Since the 19th century, the labor theory of value has fallen out of favor among most mainstream economists.
• One critique is that it is possible to expend a large quantity of labor time on producing a good that ends up having little or no value.

Question 59

Karl Marx & Friedrich Engels (theories)

Answer 59

• the fathers of socialist & communist
• Marx used the labor theory to launch a critique against free-market classical economists in the tradition of Adam Smith. If, he asked, all goods and services in a capitalist system are sold at prices that reflect their true value, and all values are measured in labor hours, how can capitalists ever enjoy profits unless they pay their workers less than the real value of their labor? It was on this basis that Marx developed the exploitation theory of capitalism.
• Marx and Engels’ ideas laid the groundwork for the theory and practice of communism, which advocates for a classless system in which all property and wealth are communally (rather than privately) owned.
• Marx thought that the capitalistic system would inevitably self-destruct.
• Competition would grow so fierce that most businesses would fold and be absorbed into unwieldy monopolies. Workers would reject a system that exploited them.
• The oppressed workers would ultimately overthrow the owners to take control of the means of production, ushering in a classless society of shared ownership.

Question 60

1. Governments around the world are currently talking about eliminating physical cash (bills and coins) altogether, and making all fiat currency completely digital. What is/are the most likely reason(s) for doing this?

Answer 60

• The government is in a lot of debt because of the pandemic giving out subs and borrowing a lot of money with interest. So now the only options they have to get themselves out of the tax is to try to tax themselves out, stiff the banks, or cheapen the currency so that when they pay back your debt the money is cheaper. If people have cash then they can’t impose interest rates and can’t tax all the cash, so if they put everything on digital, they see every transaction, so they can tax every cent that people are paying or getting paid. They are trying to devalue the currency to pay back the debt with worthless dollars, as they increase inflation.
• They also want to increase inflation because it will increase their exports with other countries because making your currency cheaper, will increase the GDP. Due to the fact that foreign buyers must pay for goods in the exporting nation’s currency if the exporting nation’s products are comparatively less expensive, they will purchase more of them. Therefore, in order to boost exports, governments prefer that their own central banks devalue their currencies.
• Also, since there wouldn’t be any anonymous transactions like there are with paper money, they could impose restrictions on how you could spend your money. Since they could prevent you from paying specific parties or purchasing specific items they do not want you to have, some illegal activity would be eliminated.

Question 61

2. Under the present-day monetary system, there is a “baked-in” percentage of loans that will not be able to be paid off, with the interest owed, so there is a mathematical certainty that some people will default on loans, become insolvent, and lose the collateral that they pledged to take out the loan. (Presently this is around 3.8% of all loans every year, on average.) Explain why this is the case, using what you know about why money is debt, and use the terms principal and interest in your answer.

Answer 61

When the government borrows money from the bank or when a person borrows money from the bank, it almost always has to be paid back with a crude interest along with the principal, so every dollar that exists must be eventually returned to a bank with interest paid. A bank creates the principal out of thin air when it makes a loan. The currency that was created by the loan is actually debt because, of course, you have to pay back the entire principal amount plus interest. Nevertheless, when this principal is created for the loan, the interest amount does not yet exist. New money is always needed to help stop the perpetual debt built into the system, caused by the need to pay the interest. Mathematically, defaults and bankruptcy are built into the system, because of this, so there will always be poverty and people who receive the short end of the stick. As a result, 3.8% of borrowers will eventually fall behind on their payments and forfeit the assets they gave the bank as collateral.

Question 62

3. In the Money as Debt video, the narrator says that it is time people ask themselves and their governments 4 simple questions about the state of the financial system today. What are these 4 questions?

Answer 62

Why do governments choose to borrow money from private banks at interest when governments could create all the interest-free money it needs, itself?
Why create money as debt when we could create money that circulates permanently?
How can the economy stay stable if debt increases at a faster exponential rate than our economy can grow?

Question 63

4. Compare and contrast Socialism and Capitalism. Outline the core tenets, and list the pros and cons of each system. (8 marks: 4 marks for explaining core tenets of each system, and providing examples/names, 2 marks for each system’s pros and cons.)

Answer 63

Socialism:
* Socialism is an economic system in which the means of production are owned and controlled by the state
The ideology of socialism was founded by Karl Marx and Friedrich Engels
banks, power plants, schools, hospitals are all owned by the government
* Socialism aims to shorten the gap between poor and rich people by distributing the wealth evenly, one way to do this is through tax distribution
* more income = more tax
* less income = less tax
Advantages
* less gap between rich and poor
* assurance of supply for important goods
* easy access to medical facilities
* free healthcare
* efficient minimum base income
Disadvantages
* lower quality of goods and services
* people might be less incentivized to work hard
* fewer innovations
* can be corrupt by politicians
* Some examples of socialism in practice are Norway, Sweden, Denmark

Capitalism:

• A government system in which the government allows its citizens to control the economy, rather than the government
  private businesses and consumers make all the decisions
  government has zero influence over the economy which the term “lassiez faire” (hands off) comes from, from Adam Smith, who is one of the founders of capitalism
  some examples are Canada, Singapore, and the UK

Disadvantages:
* great on paper, no good examples throughout history
* usually, communism is in place, and human error takes over
* a lot of losers in it, it is too harsh
* the individual is in control of their own future, if you fail there is no safety net

Advantages:
* efficient production
* lots of competition so the quality of goods and services is good
* economic growth
* total economic freedom

Question 64

5. What is fractional reserve lending? How does it work (including how the reserve requirement enables the debt to be multiplied within the banking system), and how does it cause the risk of a “bank run” when the supply of money contracts or when too many people are unable to repay their debts? (5 marks)

Answer 64

Fractional reserve lending is a system in which only a fraction of bank deposits are required to be available for withdrawal. So banks only need to keep a specific amount of cash on hand and can create loans from the money you deposit. If the banks are required to keep 10% of the deposit as reserves, then when someone deposits one thousand dollars in the bank, the bank doesn’t hold onto all that money, rather the banks will just keep 10% of the 100$ and loan out the other $900 to other people or companies. Charging interest on that money, making more money for the banks. If that person then deposits that $900 then the bank only has to keep $90 and can loan out the rest. This cycle keeps repeating, creating the monetary multiplier effect. This initial $1000 can be turned into $10,000. This happens because banks only have to keep 10% of the reserve, the other 90% of the money is made up and lent out to make more money for them. A bank run is when a lot of people go to the bank at the same time to get their money back, but the bank doesn’t have the money because they have already lent out the money to other people. So when a lot of people who originally deposited the money go back to get the money they originally had, the bank won’t have it because they don’t have enough physical cash as most of the bank’s money isn’t paper and is lent out through fractional reserve lending.

Question 65

6. Explain why the currency we call “money” is really just certificates of debt. Also, which of the attributes or functions of money is lacking from fiat currency that can be created in unlimited amounts? (3 marks)

Answer 65

Money is created out of debt through loans, loans are based on reserves, reserves are derived from the deposits through a fractional reserve system, and any 1 deposit can create 9x its original value, raising societal prices. Since all this money is created out of debt and circulated randomly through commerce, people become detached from their original debt and a disequilibrium exists where people are forced to compete for labor to pool enough money out of the money supply to pay for their costs of living. So all the money that you have right now is in debt to the bank or the bank is in debt to you through borrowing your money and loaning it out to other people. This has caused inflation, which has led to financial instability for many.

Also, the store of value is the main function of money that fiat currency lacks, because currency is not a store of value, in fact, it can even go to zero because of extreme circumstances. It is also volatile because it has no intrinsic value. Money, on the other hand, is a store of value, meaning it won’t lose significance over time, hence why gold is still so valuable.

Question 66

The inuit being a tradiotnal economy:

Answer 66

The Inuit of northern Canada serve as a prime example of a traditional economy.
* For thousands of years, the Inuit parents have taught their children the survival skills needed to survive in the Arctic Circle’s severe climate.
* The children are taught to fish, hunt, and make effective tools.
* Once learned, these skills are passed down to the next generation.
* When the Inuit hunt, it is traditional for them to distribute the harvest with other families in the community. If a walrus or bear is harvested, hunters divide it evenly into as many pieces as there are heads of families in the hunting party.
* The hunter most responsible for the successful hunt has first choice, the second-most helpful hunter chooses next, and so on.
* Because of this custom of distribution, as long as skilled hunters live in the village, the Inuit survive the long, cold winters with the food and goods required to sustain themselves.

Question 67

Marxian Economics vs. Classical Economics

Answer 67

Marxian economics is a rejection of the classical view of economics developed by economists such as Adam Smith. Smith and his peers believed that the free market, an economic system powered by supply and demand with little or no government control, and an onus on maximizing profit, automatically benefits society.

Marx disagreed, arguing that capitalism consistently only benefits a select few. Under this economic model, he argued that the ruling class becomes richer by extracting value out of cheap labor provided by the working class.

In contrast to classical approaches to economic theory, Marx’s favored government intervention. Economic decisions, he said, should not be made by producers and consumers and instead ought to be carefully managed by the state to ensure that everyone benefits.

He predicted that capitalism would eventually destroy itself as more people get relegated to worker status, leading to a revolution and production being turned over to the state.

Question 68

It is estimated that about 5% of the money in the system is produced by the federally-owned mint (paper bills and coins). The other 95% is loaned into existence by private banks, and only exists in the form of numbers in a database or on ledgers. Explain how money that doesn’t exist is loaned into existence by banks

Answer 68

When someone deposits one thousand dollars in the bank, the bank doesn’t hold onto all that money, rather the banks will just keep 10% of the 100$ and loan out the other $900 to other people or companies, charging interest on that money, making more money for the banks. If that person then deposits that $900 then the bank only has to keep $90 and can loan out the rest. This cycle keeps repeating, creating the monetary multiplier effect. This initial $1000 can be turned into $10,000. This happens because banks only have to keep 10% of the reserve, the other 90% of the money is made up and lent out to make more money for them.

• money is “loaned into existence” because banks are able to create new money through the lending process based on the reserves they hold and the fractional reserve requirements set by central banks. This results in the majority of money in the system existing only as digital entries in bank ledgers, rather than physical currency.

Question 69

How does this make what we call “money”, in reality, contracts of debt?

Answer 69

The most typical form of debt is loans, and the way that money works through banks and companies or people, these transactions happen through a series of loans to create interest and more money. So all the money that you have right now is in debt to the bank or the bank is in debt to you through borrowing your money and loaning it out to other people.

• The money created through this process is essentially a form of debt. It represents an obligation for someone to repay the loan amount plus interest. In other words, the majority of the money supply in the economy is created through loans, which are contracts of debt between borrowers and lenders.

Question 70

Which of the characteristics of real money does bank-created currency lack?

Answer 70

How to compare values, like how many hours of legal service did it take to provide this good or service, and does the value change depending on that? When you try to compare values like this to dollar amounts it gets complicated so this is** the unit of value **characteristic of real money.

Question 71

How did paper money originate?

Answer 71

In ancient China, they initially used coins with a hole punched through, but as the economy became bigger they needed larger ways to count money so the Chinese government changed to using pieces of paper to represent money as it was easier to transport and count. Then they began using I.O.Us to exchange with each other for goods and services instead of just with the bank for coins. Then this idea made the government start to print more slips of paper money and spread them to different countries. In Italy where the merchants first issued i.o.u. ‘s, then the merchant would pay the bank in the local town and cash it in, then the bank would send a rider to the bank from the other city and then the goods would be transferred, this was called the promissory note. Later, the merchants and goldsmiths got together, with the goldsmiths lending out parts of their vaults, with some interest. This is how banks were formed as people exchanged receipts for gold. These receipts turned into currency, as they were easier and more popular, the first form of this was the banknote.

Question 72

What is a “bank run” and why do they happen?

Answer 72

A bank run is when a lot of people go to the bank at the same time to get their money back, but the bank doesn’t have the money because they have already lent out the money to other people. People who have money in the bank are allowed to go there and take money out in the form of paper money, however, most of the bank’s money is not paper money. If a lot of people ask for cash, then they won’t have enough paper money to supply all of them. As more people find out that this bank doesn’t have enough supply of paper money, then depositors will stop trusting banks and try to get their money out.

• A “bank run” occurs when a large number of depositors withdraw their money from a bank within a short period, typically due to concerns about the bank’s solvency or stability. This sudden and simultaneous withdrawal of funds can lead to severe liquidity problems for the bank, potentially resulting in its failure

Question 73

What is meant by fractional reserve banking or the fractional reserve system?

Answer 73

• Fractional reserve system: a system in which only a fraction of bank deposits are required to be available for withdrawal. Banks only need to keep a specific amount of cash on hand and can create loans from the money you deposit.
• The receiving banks typically hold 10% of the placement in reserve which makes 90% of the deposit available to lend out to borrowers. The same step is then repeated for each deposit made in the millions of daily transactions which due to the multiplier effect adds disproportionately to the money supply. In short the multiplier effect is 10x for each $ deposited. Some countries such as Australia, the UK, Canada, Hong Kong and Sweden are not required to hold these reserves which theoretically means they are not limited in terms of how much they can lend out as a ratio to deposits. Instead, they rely on the ‘confidence’ factor, i.e. confidence that the money will be repaid.
• The whole system is entirely reliant on not all depositors wanting their money back at the same time.

Question 74

Today, does gold still back the money banks issue? When and why did the gold standard end?

Answer 74

After World War 1, governments viewed printing of money as a way to raise government revenue, particularly in times of war. This ended currency exchanges with gold, and all currency values dropped. After the great depression, in 1933, FDR announced that you were no longer able to trade in your money for gold and all private gold was confiscated to make more government revenue. After this people were allowed to trade their money for gold but only for a certain amount, in 1971 all ties to cash and gold were cut in America.

Question 75

What is fiat currency (the stuff we now use for money)?

Answer 75

Currency that holds no intrinsic value, as it’s not backed by anything physical like silver or gold — but has value from the backing of the government that issued it.

• Fiat currency is a type of currency that is issued by a government and has no intrinsic value. Unlike commodity money, such as gold or silver coins, fiat currency is not backed by a physical commodity or asset. Instead, its value is based on the trust and confidence of the people who use it and the government that issues it.

Question 76

In the present, the total amount of money that can be created has only one real limit. What is this?

Answer 76

The real limit on the amount of money in circulation is not how much the central bank is willing to lend, but how much the government, firms, and ordinary citizens, are willing to borrow.

Question 77

What is a fractional reserve requirement?

Answer 77

A fractional reserve requirement is the amount of funds that the banks have to keep with the RBI, this is used to drain excessive money. 11%, the requirement is determined by each country’s central bank, if the reserve requirement is raised then banks will have less money to loan out, which means they get less interest. Lowering the requirement will stimulate economic growth

• A fractional reserve requirement is a regulation imposed by central banks on commercial banks, specifying the minimum fraction or percentage of customer deposits and notes that banks must hold as reserves. This requirement mandates that banks retain a portion of their deposits as reserves rather than lending out all of the deposited funds.

Question 78

Today, a bank’s reserves consist of two things. What are they?

Answer 78

1. Cash Reserve Ratio
   Banks have to maintain a certain percentage of their deposit as a reserve. The central bank of the country fixes that percentage. The commercial bank must deposit these cash reserves to the central bank. Therefore, CRR means that a certain percentage of deposits must be sent to the central bank.
2. Statutory Liquidity Ratio
   A certain percentage of the deposits must be kept by the bank in cash or gold. Like CRR, the percentage of SLR is also specified by the Central Bank.

Question 79

Traditionally, reserve requirements were 1:9, meaning that for every 1 dollar a bank had in its vaults, it could lend out $9. In Canada, presently, the total money lent out by Canadian private banks is reported to be about $1.5 trillion, while there is only $4 billion in bank vault reserves. What fraction do Canadian private banks presently have in reserve?

Answer 79

4 billion: 1,500 billion = 1500:4 = 750 : 2
= 375 million is lent out for every: 1 billion
0.267% of original lending in reserve

Question 80

During the Great Depression, when reserve requirements were 1:9, banks had to be shut when a lot of people came in to withdraw their money for fear of not being able to get it out. This was a modern bank run, and people could not get the money back that they had in their bank accounts. Do you think the danger of banks getting into trouble because of bank runs today is higher or less than during the Depression (based on your answer to the last question)?

Answer 80

Way higher because the regulation in Canada is much lower than it used to be making the amount that banks lend out way more than it used to be, making it riskier if there is ever a bank run, the old ratio was regulated way more and if everyone went to the bank at the same time at least it wouldn’t be that bad, but now since there’s lower regulations a bank run could be very detrimental to today’s economy.

Question 81

In the present-day financial system, debt has to be paid off with interest. But to get the new money to pay off the interest, more debt money has to be created. What is a logical outcome if the principal of all the debt in the financial system were suddenly paid off? Where would the money to pay off the interest come from? (Video shown last class)

Answer 81

There would not be one dollar in circulation, the money doesn’t exist, so the amount of money owed to the bank is always going to be more than the money that you have, so this causes perpetual debt into the system. Mathematically, someone will always get the short end of the stick, because that’s how the system is set up.

Question 82

In what way is a loan in the banking world different from a loan in the world of real objects? (How is borrowing $50 different from borrowing a hammer worth $50)

Answer 82

Borrowing a loan from the bank makes you pay interest, but if you get a loan in the world of real objects then you don’t have to pay interest.
* Overall, while both types of borrowing involve obtaining something of value, loans in the banking world are financial transactions involving the exchange of money, whereas borrowing physical objects involves the transfer of tangible assets for temporary use.

Question 83

In the “Money as Debt” video the narrator says that it is time people ask themselves and their governments 4 simple questions about the state of the financial system today. Summarize and explain these 4 questions.

Answer 83

• Why do governments choose to borrow money from private banks at interest when governments could create all the interest-free money it needs, itself
  This would create more debt and interest since this would create an inescapable spiral of mounting money owed
• Why create money as debt? Why not create money that circulates permanently?
  As the money supply increases, the value decreases.
  so creating money as debt becomes unstable if it is not managed properly
• How can a money system dependent on perpetually accelerating growth be used to build a sustainable economy?
  isn’t it logical that perpetual accelerating growth and sustainability are incompatible?
  Perpetual growth requires perpetually escalating use of real-world resources and energy, so more and more stuff has to be moved from natural resources to garbage forever, just to keep the system from collapsing.
  money lenders will end up with all the money and after the foreclosure and bankruptcy are filed, they will get all the property as well
  only if the proceeds of lending at interest were evenly distributed, might this problem be solved by heavy taxation of banks, profits might accomplish this goal, but then there would be no banks
• What specifically needs to be changed?
  What is it about our current system that makes it totally dependent on perpetual growth?
  need a very different concept of money
  the system must be replaced, as tinkering with the system won’t work, as the fundamentals of it are bad, there must be non-profit banks, changing to no interest at all
  returning to gold-based money would increase value, however, there are some conflicts with this
  greed and dishonesty are the main problems
  another way the system could change is a monetary reform, but this would not be easy to change, but one model that would work is based on systems from the past
  this would create an economy with the interest-free environment, so the money would be created as value instead of debt, tax money would go further as less of it would be spent on interest

Question 84

About how much money in our financial system today is in the form of physical bills and coins? (This is also called M-0, “M zero” money supply.)

Answer 84

About 228572 Million CAD is in the form of physical bills and coins.

Question 85

The larger the reserve ratio fraction, the safer the system is against bank runs. So a reserve ratio of 1:2 (lending out twice as much money as you have in the vault) is five times safer than a ratio of 1:10. How does the original ratio compare to modern-day reserve ratios (recall that Canadian private banks have a reserve ratio of less than 5%)?

Answer 85

This new reserve ratio being less than 5% is much less than the original ratios as they were at 50% and 10%. This means that if there is a bank run then modern Canada is much more at risk of being affected by it, as they have less money in the bank to give back to people who want to withdraw it.

• In summary, modern reserve ratios, including those in Canada, are generally lower than historical levels, allowing banks to lend out a larger multiple of their reserves. While this may increase the efficiency of credit allocation and economic growth, it also poses greater risks to financial stability and increases the vulnerability of the banking system to liquidity crises and bank runs.

Question 86

Classical economics economists

Answer 86

Adam Smith
David Ricardo
John Stuart Mill