Topic 01 : Money

Question 1

What is the double coincidence of wants?

Answer 1

The double coincidence of wants happens in a barter economy. Without a common medium of exchange (the USD), in order for an exchange to happen, both parties must desire something from the other.

I want to buy a table from you. And, all I have to offer is eggs. You only want wheat for your table. All else equal, we can not transact.

Question 2

How many prices are there in a barter economy?

Answer 2

(n(n-1)/2)

Question 3

What is wealth?

Answer 3

Wealth is the total collection of pieces of property that serve to store value.

Question 4

What is income?

Answer 4

Income is the flow of earnings per unit of time. (a flow concept)

Question 5

What are the functions of money?

Answer 5

1. Medium of exchange
2. Unit of account
3. Store of value

Question 6

What is meant by money is a “medium of exchange”?

Answer 6

A medium of exchange eliminates the trouble of finding a double coincidence of needs

1. reduces transaction costs
2. promotes specialization

Question 7

What is required to create a medium of exchange?

Answer 7

1. easily standardized
2. widely accepted
3. divisible
4. easy to carry
5. does not deteriorate quickly

Question 8

What is meant by money is a “unit of account”?

Answer 8

1. used to measure value in the economy

2. reduces transaction costs

Question 9

What is meant by money is a “store of value”?

Answer 9

1. used to save purchasing power over time (which other assets serve this function – such as gold)
2. liquid

Question 10

What are the types of payments systems?

Answer 10

1. Commodity money – such as gold, silver, or even cigarettes
2. Fiat Money – USD
3. Checks – instruction to bank to transfer money
4. Electronic Payment - VERY CHEAP, VERY FAST
5. E-Money – debit card, smart card, cryptocurrencies

Question 11

What is M0?

Answer 11

M0 is just currency

Question 12

What is M1?

Answer 12

M1 is most liquid assets.

M1 = currency + traveler’s checks + demand deposits + other checkable deposits

Question 13

What is M2?

Answer 13

M2 is M1 + not as liquid assets

M2 = M1 + small denomination time deposits + savings deposits and money market deposits + money market mutual fund shares

M3 and M4 exist, but they are not used as much.

Question 14

What is the money measuring model (M1, M2, M3….) based upon?

Answer 14

The ways money is measured from M1 to M4 is based upon liquidity. As you go from M1 to M4, you include assets that are less and less liquid.

Question 15

What is the difference between the fisher identity and the quantity theory of money?

Answer 15

The fisher identity makes no assumptions, while the quantity theory of money assumes that velocity (V) is constant and real GDP (Y) is at full employment level of output.

Question 16

What is the fisher identity?

Answer 16

M x V = Y x P

M = money stock
P = price level
V = velocity
Y = real GDP

Question 17

What is the quantity theory of money?

Answer 17

M x V = Y x P
(assume V constant and full employment level of output for Y)

M = money stock
P = price level
V = velocity
Y = real GDP

Question 18

What is the relationship between M1 and M2 growth from 1960 - 2017?

Answer 18

While in the short term M1 and M2 move in different directions, in the long-term, they move in the same direction

Question 19

Who holds most of the supply of USD?

Answer 19

1. criminals

2. foreigners

Question 20

What is Gresham’s Law?

Answer 20

“Bad money drives out good”

Gresham’s law states that people attribute more value to coins than metal of equal weight.

People prefer to trade in bad money and store value in good money. This causes good money to eventually not be used anymore.

English story about King printing new coins that had less silver in them, which made them less valuable compared to older ones. While the coins were the “same”, people separated old and new coins. They kept the old entirely silver ones and transacted with the less silver ones. The entire silver “good” coins

Question 21

What is aggregate output?

Answer 21

Value of all final goods and services produced in a domestic economy during a year (GDP)

Question 22

What is aggregate income?

Answer 22

Total income of factors of production (land, capital, labor) during the year

Question 23

What is GDP deflator formula?

Answer 23

Nominal GDP / Real GDP

Question 24

What is definitive money?

Answer 24

Definitive money is money that does not have to be converted into a more basic medium of exchange.

Examples:

1. USD
2. Gold
3. Silver

Question 25

Where does definitive money come from?

Answer 25

Definitive money is authorized by a central bank or government body as LEGAL TENDER

Question 26

What is legal tender?

Answer 26

Legal tender is money that must be accepted to discharge debts and tax payments must be in cash or checks denominated in that money.

Question 27

What is the fiat system?

Answer 27

The fiat system is where a central bank prints definitive money which can be used to pay debts and taxes.

Question 28

What is M3?

Answer 28

M3 = M2 + large-denomination time deposits + institutional money market mutual fund balances + term repurchase agreements + Eurodollars

Question 29

What is a Eurodollar?

Answer 29

A Eurodollar is a US dollar deposit held in Europe or somewhere outside the US

Question 30

What is increased specialization due to money so important?

Answer 30

Specialization allows the economy to be more efficient.

Question 31

Why is money better than both barter and government allocation?

Answer 31

Government’s often fail by misallocating resources.
Barter requires double coincidence of needs.

Money solves the problem by a facilitating trade, allocating resources efficiently, and avoiding the double coincidence of needs.

Money also allows for a deferment of payment.