Money and Central Banks

Question 1

What is a central bank ?

Answer 1

• Institution that controls an economy’s money supply

Question 2

What is money ? (for economists )

Answer 2

• Money is a narrow class of assets with special properties
• Money serves the economy as the medium of exchange, the unit of account, and a store of value.

Question 3

what is a medium of exchange ?

Answer 3

• it is whatever people use to purchase goods and services

Question 4

why people with substantial wealth usually hold only a small fraction of it in money ?

Answer 4

• The reason is that money yields a poor return compared to other assets, such as bonds
• Rich people keep most of their wealth in securities and real estate, but they keep enough in cash and checking accounts to buy groceries, pay for haircuts, and otherwise purchase the goods and services they desire

Question 5

what is Money demand ?

Answer 5

• It is the amount of wealth that people choose to hold in the form of money

Question 6

definition of barter :

Answer 6

• system of exchange in which goods and services are traded directly, with no money involved

Question 7

Double coincidence of wants :

Answer 7

• condition needed for barter in which each party to a transaction must have something the other wants

Question 8

what is Unit of account ?

Answer 8

• It is a measure in which prices and salaries are quoted

Question 9

Functions of money :

Answer 9

• Medium of exchange
• Unit of account
• store of value

Question 10

what is the meaning of “store of value” ? (money)

Answer 10

• It is a form wealth that can be held

Question 11

what is Commodity money ?

Answer 11

• It is a valuable good that serves as the medium of exchange

Question 12

what is Fiat money ?

Answer 12

• It is money with no intrinsic value

Question 13

types of money ?

Answer 13

• Commodity money
• Fiat money

Question 14

what is Dollarization?

Answer 14

• It is the use of a foreign currency (often U.S. dollars) as money
• any currency with low inflation and macro stable can be take as medium of exchange

Question 15

what is a “Currency board”?

Answer 15

• It is an institution that issues money backed by a foreign currency

Question 16

what is Currency union ?

Answer 16

It is a group of countries with a common currency

Question 17

how a money fiat system might break down ? (general)

Answer 17

• If everybody else refuses to accept money, then you will too
• ex: Uzbeks would accept U.S. currency for goods and services only if it was clean and unwrinkled, each person turned down worn bills because every- body else did.

Question 18

what is “Money supply”?

Answer 18

• total amount of money in the economy

Question 19

what is Monetary aggregate ?

Answer 19

• measure of the money supply (M1 or M2)

Question 20

what is M1 ?

Answer 20

• the Federal Reserve’s primary measure of the money supply; the sum of currency held by the nonbank public, checking deposits, and traveler’s checks
• The idea behind M1 is that money is the medium of exchange (use in the daily basis)

Question 21

formula of the M1 ?

Answer 21

M1 = 􏰀currency +􏰁 checking deposits +􏰁 traveler’s checks

Question 22

what is a payments system ?

Answer 22

• It is an arrangements through which money reaches the sellers of goods and services

Question 23

what is the meaning of Stored-value card ?

Answer 23

• It is a card issued with a prepaid balance that can be used for purchases

Question 24

what is E-money ?

Answer 24

• funds in an electronic account used for Internet purchases

Question 25

what is Liquidity ?

Answer 25

• How ease is the trading of an asset for money

Question 26

what is M2 ?

Answer 26

• It is a broad measure of the money supply that includes M1 and other highly liquid assets (savings deposits, small time deposits, and retail money-market mutual funds)

Question 27

how the Fed treat the money-market deposit account (MMDA) ?

Answer 27

• The Fed treats MMDAs as savings rather than checking accounts, so they are included in M2 but not in M1.
• The existence of MMDAs blurs the line between checking and savings deposits because it is possible to write checks on MMDAs. However, depositors are limited to six checks a month, and people don’t make pur- chases with MMDAs very often

Question 28

what is Sweep program in financial terms ?

Answer 28

• banking practice of shifting funds temporarily from customers’ checking accounts to money-market deposit accounts (MMDAs) checking accounts———> (MMDAs)
• The Fed requires banks to hold reserves equal to a certain percentage of their total checking deposits
• MMDAs have no reserve requirements, so moving funds from checking accounts to MMDAs reduces a bank’s required level of reserves
• Most consumers are unaware that their checking deposits may be swept into other accounts
• Consumer ignorance of the practice doesn’t matter, as funds that are swept out of checking accounts are always swept back in when they are needed.

Question 29

Functions of Central Banks :

Answer 29

1. Clearing checks and electronic payments
2. Monetary policy (managing the money supply)
3. Emergency lending
4. Financial regulation

Question 30

Definition of Monetary policy : (financial term)

Answer 30

• central banks’ management of the money supply

Question 31

Meaning of “Lender of last resort” :

Answer 31

• central bank’s role as emergency lender to financial institutions

Question 32

why the attacks on the World Trade Center and the Pentagon immediately interrupted the payments system?(U.S.A)

Answer 32

• airplanes were grounded, checks stopped traveling among banks
• In addition, the attacks knocked out electronic communications in Manhattan’s financial district

Question 33

what effect after a breakdown in payments ? (banks) (crisis)

Answer 33

• domino effect:
  1. banks did not receive payments they expected and ran short of money
  2. they delay payments and refuse to make loans.
  3. other banks don’t receive expected funds
  4. Everybody starts hoarding money
  5. payments system can break down.

Question 34

how the Fed (USA) prevent a Domino effect after a breakdown ? (11/9)

Answer 34

• The Fed adjusted the rules governing payments
• The Fed acted as a lender of last resort
• The Fed relaxed bank regulations

Question 35

Degrees of Liquidity: graph

Answer 35