The Monetary System Flashcards
What is the monetary system?
It is a set of laws regarding the nation’s currency and the mechanisms and institutions by which the government provides money in the economy.
It consists of a Mint (who is coining the money), Central Bank and Commercial banks.
What are the elements of a monetary system?
- monetary standard
- monetary unit
- types of money
- money convertibility
What is the monetary standard?
It is the value behind the money in the monetary system.
What are the types of monetary standard?
Metallic standard system (silver, gold, or both)
Mixed system (reserve currency standard+gold standard)
Paper currency standard system
What is the gold exchange standard?
It was set up in Bretton Woods (1944)
It helps convert currencies into gold.
The USD was the last currency to be convertible to gold until 1971.
The price of gold remained at $35 after 1971
Why was the gold standard created?
It should:
- reintroduce the convertibility of currency
- eliminate exchange controls
- establish an international monetary system with stable exchange rates
What are the rules of the gold exchange standard?
A reserve currency was chosen
The reserve currency agreed to fjx its value to a weight in gold
The reserve country agreed to exchange gold for its currency with other CB’s in the system.
What is the paper currency standard system?
It is a fiat system which does not allow the free convertibility into a metallic standard and the money is given value by the government.
Today, all countries use it.
What are the paper currency system’s characteristics?
- currencies are made of paper
- the value of the money is set by supply and demand
- value of the money depends on its purchasing power
What are the advantages of the paper currency system?
Paper money is economical Its cost of production is insignificant It is convenient to handle It is standardized Its supply can be made elastic Its value can be kept stable It is perfect for internal trade
What are the disadvantages of the paper currency system?
It can be over-issued by the managing authorities thus leading to inflation.
It may only be accepted in the country it is issued.
What is Par Value?
It is the official value of a currency unit, fixed by monetary authorities by law.
What is monetary parity?
It is the ratio between 2 par values (official exchange rate).
What is the exchange rate?
It is the price of one currency expressed in another currency.
The base currency (1 unit) can be bought with x units of the term currency.
What are the direct and indirecr quotations?
Direct quotation uses the country’s home currency as the term currency.
Indirect quotation uses the country’s home currency as the base currency.
Direct quotation is more frequently used.
Types of exchange rates based on how they are set
Official exchange rates: fixed, free-floating and pegged.
Market exchange rate (price recorded on the market based on demand and supply).
What are the official exchange rates?
Fixed ER=set by considering the par values of currencies
Free-Floating ER=varies among other currencies and is determined by demand and supply.
Pegged ER=varies according to the currency it is pegged with.
Types of exchange rates based on economic implications
Single ER: applied by developed countries for internarional transactions
Multiple ER’s: used by developing countries to stimulate or discourage some transactions.
Types of exchange rates based on the bank’s position
- selling ER
- buying ER
Types of exchange rates based on the settlement date of transaction
Spot ER-current ER
Forward ER-ER that is traded today for delivery and payment occurs on a future date.
What are the types of money?
Cash money: banknotes and metallic money
Scriptural money: deposits in a credit institution
Money with intrinsic value: given by the precious metal they are made out of
Fiat money: fiat value higher that its intrinsic value
Convertible money: in precious metal or other currency
Nonconvertible money: recognized only in the domestic currency.
What is money convertibility?
It is the ability to exchange money for some other kind of value (gold or other currencies).
It represents the legal feature of a currency to be exchanged freely on the market in othet currencies without restrictions.
What types of convertible currencies are there?
Convertible currencies
Inconvertible currencies: currencies of the countries which maintian restrictions on payments for current international transactions
Freely usable currencies: USD, Euro, Japanese yen, british pound.
