the federal reserve system Flashcards
what are the three functions of moiney?
means of payment
unit of account
store of value
what is some criteria of money that makes it a suitable medium of exchange?
1) acceptable
2) standardized quality
3) durable
4) valuable relative to its weight
5) divisible
what is M1 and M2?
M1 is the most liquid forms of money inlcuding physical currency like coins and notes, demand deposits held by businesses and people.
M2 includes everything in M1 and other less liquid assets like savings, time deposits, money market mutual funds. SO assets not as readily available as M1
what is liquidity?
a measure of the ease with which an asset can be turned into a means of payment
more costly an asset it is to turn into money, less liquid it is
what is the monetary base?
bank reserves held at the fed and currency outstanding
what is a balance sheet?
a financial statement showing a firm’s assets, liabilites and net worth at a point in time
what is the formual for net worth/stockholder’s equity?
assets - liabilities
what is a fractional reserve banking system?
a banking system where banks keep less than 100% of deposits as reserves
what are required reserves , excess reserves?
required reserves are required by law and any extrea reserve is called excess reservce
required reserve + excess reserve = reserves
what is a single deposit multiplier
ratio of amount of deposits to amount of new reserves created by banks when banks are fully loaded out.
what is the equation for single deposit multiplier Mdd?
Mdd = 1 / (reserve ratio RRR + excess reserve ration ERR + ratio of cash to deposit of currency RC)
what arr major responsibilities of the fed?
1) regulates banks
2) acts as a bank for banks
3) controls the money supply
how does the fed control money supply?
using open market operations
when feds buy securities it injects reserves into the banking system allowing banks to make new loans
leading to total supply of money increasing
when feds sell securities, it removes reserves from the banking system reducing money supply
what is the relationship between the demand deposit multiplier and the required reserve ratio and reserve ratio?
negatively related
how does the multiplier work?
the multiplier is weakend by the public’s desire to hold cash and bank’s desires to hold excess reserves
what are the monetary policies of the Fed?
1) open marketr operations - buying and selling govt bonds in open market
2) discount rate lending and term auctional facility - federal reserve lending to banks
3) required reserve - changing minimum RR ( not common)
4) payment of interest on reserves - paying interest on reserves held by banks at the Fed
how does the open market operations work and what is the downside to it?
the feds attempt to control the real rate of interest but it is effective in short run not long run.
but the control is on nominal not real.
so in lending and borrowing, it depends on real interest rate.
aggregate spending on investment depends on real interest rate but the feds influence is on the short term interest rates
what is the fed funds market and how is it related to the monetary policy?
the fed funds market is the market where banks are borrowing and lending funds from their deposit balances at the fed
the monetary policy sets a target fed funds rate which is determined in the market. the fed influences this through the supply side of the market
what is the discount rate in the fed funds market?
it is the corridor that is defined by the discount rate and deposit rate (rate paid by feds on reserves held at fed)
interest feds charges banks for loans
what is the deposit rate?
rate paid by feds on reserves held at fed
