Lecture 19

Question 1

Money, currency in circulation, checkable bank deposits, the money supply

Answer 1

• Money: any asset that can easily be used to purchase goods and services
• Currency in Circulation: Cash held by the public
• Checkable Bank deposits: Bank accounts on which people can write checks
• The money supply: is the total value of financial assets in the economy that are considered Money

Question 2

The roles of money

Answer 2

The roles of Money:
* Money must function as:
- A medium of exhcnage
- A store of value
- A unit of account

• Medium of exchange: something people accept as payment fkr goods and services:
• An asset that indivudals acquire for the purpose of trading rathe than for their own consumption
• Store of value: Moey is a means of holding purchasing power over time
• It enables people to save the money they earn today and use it tp buy the goods and services they want tomorrow
• A unit of account: Money provides a yardstick for measuring and comparing the values of a wide variety of goods and services

Question 3

Types of money:

Answer 3

Types of money:
* Types of Money:
- Commodity money
- Commodity back money
- Fiat money

Commodit ymoney: acutal commdoity
Commodity abacked mean: it can be turnt to the commodity

Fiat money; not backed by anyhting but from its offical statu of means of payments

• Commodity money: a good used as a medium of exchange that has instrictic value in other uses
• Commodity-Back money: A medium of exchange with no intrsitic value; the ultimate value is guaranteed by a promise that it can be converted into valuable goods
• Fiat money: money whose values dervies entirely from its official status as a means of money

Question 4

Monetary aggregate:

Answer 4

A monetary aggregate is an overall measure of the money supply.

Question 5

Near-moneys

Answer 5

Near-moneys are financial assets that can’t be directly used as a medium of exchange but can be readily converted into cash or checkable bank deposits.

Question 6

The money supply is measured by two monetary aggregates:

Answer 6

• M1: Includes the most liquid forms of money
• M2: includes near-money: financial assets that can’t be directed used as a medium of exchange but can readily be converted into cash or checkable bank deposits

M1 consists of currency in circulation, checkable bank deposits, and travelerʼs checks. M2 consists of M1 plus various kinds of near-moneys.

Question 7

What is a bank?

Answer 7

A bank is a financial intermediary that uses liquid assets, in the form of bank deposits, to finance the illiquid investments of borrowers.

Question 8

Money supply formula

Answer 8

∆Money supply = ∆Deposits*(1/rr)

RR= required reserves

Question 9

Bank Reserves

Answer 9

Bank reserves are the currency banks hold in their vaults plus their deposits at the Federal Reserve.

Question 10

What are the liabilites of the bank?

Answer 10

Deposits because they repersent ufns that must ultimately be repaid to depositors

Question 11

The fraction of bank deposits that a bank holds as reserves is its

Answer 11

The fraction of bank deposits that a bank holds as reserves is its reserve ratio

The reserve ratio is the fraction of bank deposits that a bank holds as reserves.

Question 12

Bank run

Answer 12

is a phenomenon in which many of a bankʼs depositors try to withdraw their funds due to fears of a bank failure.

Question 13

Bank Regulations what are the 4

Answer 13

Bank Regulation: Deposit Insurance:
1) Deposit Insurance: a guarantee that a bank’s depositors will be paid even if the bank can’t come up with the funds
- The Canadian Deposit Insurance Corporation (CDIC) insures bank deposits up to $100,000 to proect against losses if the financial institution fails
- Deposit Insurance Creates a well known incentive: banks can take more risks sine they are insured

2) Capital Requirments: requirments that the owners of banks hold substantially more assets than the value of bank deposits
– to help motivate safe behavior, banks cpital is required to equal 7% or more of their assets:

regulators require that bank owners hold substantially more assets than the value of bank deposits. That way, the bank still has assets larger than its deposits even if some of its loans go bad, and losses will accrue against the bankʼs assets, not the government.

3) Reserve requirments: rules set by the central bank that determine the minimum reserve ratio for a bank
- For example, in the US, the minmum reserve ratio for checkable bank deposits is 10%

4) The discount window: an arrangement in which the central bank stands ready to lend money to banks in trouble.

Question 14

What are the two ways banks affect the money supply?

Answer 14

Banks reduce the money supply by removing some currency from circulation: dollar bills that are sitting in bank vaults, as opposed to sitting in peopleʼs wallets, arenʼt part of the money supply.
2. Much more importantly, banks increase the money supply by making loans, the total value of which is much larger than their reserves. As a result, they make the money supply larger than just the value of currency in circulation.

Question 15

Excess reserves =

Answer 15

Excess reserves are a bank’s reserves over and above its required reserves.

Question 16

Reserve rate of 10% with a 1000 increase in excess reserveswill increase the ttoal value of checkable bank deposits by?

Answer 16

1,000/0.1=10,000

Tofind this you first find out what the money mmultiplier is,

Money multiplier = 1/RR

1/0.1=10 = money mutliplier

Then now you found for every dollar you give you will get 10, so you mutliply the 1000 excess by 10 to find 10,000

Question 17

Who controls the sum of bank reserves and currenc in ciruclation? and what is it called

and why is it different from money supply

Answer 17

Federal Reserve controls the sum of bank reserves and currency in circulation, called the monetary base,

But it does not control the allocation of that sum between bank reserves and currency in circulation.

Monetary base is different from money supply because monetary base does not include non cash assets

Not to be confused with the money supply, the monetary base does not include non-cash assets, such as demand deposits, time deposits, or checks.

Question 18

The monetary base:

Answer 18

Which is the monetary authorities control, is the sum of currency in circulation and reserves held by banks.

The monetary base is the sum of currency in circulation and bank reserves

Question 19

The monetary base is different from the money supply in two ways

Answer 19

Bank reserves, which are part of the monetary base, arenʼt considered part of the money supply. A $1 bill in someoneʼs wallet is considered money because itʼs available for an individual to spend, but a $1 bill held as bank reserves in a bank vault or deposited at the Federal Reserve isnʼt considered part of the money supply because itʼs not available for spending.
2. Checkable bank deposits, which are part of the money supply because they are available for spending, arenʼt part of the monetary base.

currency in circulation is part of both the monetary base and the money supply. But bank reserves arenʼt part of the money supply, and checkable or near-checkable bank deposits arenʼt part of the monetary base.

Question 20

Money multiplier:

Answer 20

Money multiplier: it’s the ratio of the money supply to the monetary base

1/rr

The money multiplier is equal to the money supply divided by the monetary base. It is smaller than $1/rr because people hold some funds as cash.

Question 21

Central Bank

Answer 21

A central bank is an institution that oversees and regulates the banking system and controls the monetary base.

Question 22

What does a bank do if it can’t meet the reserve requriemnts?

Answer 22

• In the us, the federal funds market allows banks that fall short of the reerve to borrow funds from banks with excess resreves
• The federal funds rate: is the interest rate determined in the federal funds market
• The Discount rate: is the rate of interest the federal reserve charges on loans to banks
• Normally, the discount rate is set 1 perenatge point above the federal funds rate in order to disourcage banks from turning to the Fed when they are in need of reserves

The discount rate is the interest rate charged to commercial banks and other depository institutions on loans they receive from their regional Federal Reserve Bank’s lending facility—the discount window.

Question 23

An open-market operation is and what type of policy is it

Answer 23

• Open market operations are the principal tool of monetary policy: the Boc can increase or reduce the monetary base by buying or selling government debt to banks

In an open-market operation the Federal Reserve buys or sells U.S. Treasury bills, normally through a transaction with commercial banks (banks that accept deposits and make loans), and investment banks (that create and trade assets but donʼt accept deposits).

An open-market operation is a purchase or sale of government debt by the Fed.

Question 24

An open-market purchase of Treasury bills does what to the mony and monetary base

Answer 24

An open-market purchase of Treasury bills increases the monetary base and therefore the money supply. An open- market sale reduces the monetary base and the money supply.

Question 25

Macroeconomic polcoieis mostly shift what

Answer 25

Macroeconomic polciies must always sift AD UNESS HEERES A SUBSIDISY WHICH would shift Aggregate supply