Money Flashcards
What are the three key roles of money
Medium of Exchange, Store of value and a unit of account
What is fiat money
An asset that is used as legal tender by government decree and not backed by a physical commodity like gold. No intrinsic value.
What is M2 money supply
the sum of currency in circulation, checking accounts, savings accounts and most other bank accounts
What is the quantity theory of money
Assumes the ratio of money to GDP is constant
Inflation equation
Inflation rate = Growth rate of money supply - Growth rate of real GDP
Who wins from unexpected inflation?
A homeowner paying a mortgage at a fixed rate of interest
Shareholders paying a pension that is not indexed to inflation
Who loses from unexpected inflation
A bank receiving payments on a mortgage with a fixed rate of interest
A retiree receiving a pension that is not indexed for inflation
Social costs of inflation
can lead to counterproductive policies such as price controls
Raising logistical costs (menu costs)
Distorting relative prices when price changes do not happen at the same time
Social benefits of inflation
Generating government revenue by printing currency
Stimulating economic acitivity
What three things does the central bank do
Monitors financial institutions
Controls certain key interest rates
Indirectly controls monetary supply
What two key goals do the federal reserve use monetary policy to achieve
Low and predictable levels of inflation
Maximum (sustainable) levels of employment
What is the federal fund market
The market where banks borrow and lend reserves to one another
What is the federal fund rate
The overnight (24hour) interest rates charged in the federal fund market
Give a couple examples of why the reserve demand curve would shift
Economic expansion or contraction
Changing liquidity needs
What is an open market purchase
When feds buy gov bonds from private banks and in return gives the private banks more reserve
What is an open market sale
When the fed sells government bonds to private banks, in return the private banks give up some of their reserves to the fed.
What is the main method the feds use for influencing the federal fund rate
Changing the quantity of reserves supplied through market operations
How does the fed reduce the inflation rate
Open market sales
increase reserve requirements
pay higher interest on reserves
What is monetary policy
a modification of the supply of money
What does expansionary monetary policy do
Lowers interest rates, encouraging spending and increases the money supply which boosts investment
What does contractionary monetary policy do
Raises interest rates, discourages spending which slows the money supply and lowers inflation.
What is fiscal policy
Fiscal policy is a term for the taxing and spending of GOVERNMENTS to control economic activity
