Unit 10: Banks, Money & The Credit Market Flashcards
What does money allow people to do?
Transfer purchasing power between people and over time.
What is M0?
The amount of currency in circulation and bank reserves (monetary base).
What is the key difference between M1 and M4?
M1 includes liquid assets; M4 includes broad, illiquid financial instruments.
What is the difference between income and wealth?
Income is a flow over time; wealth is a stock at a point in time.
What is consumption smoothing?
Balancing consumption over time to avoid extreme highs and lows.
What determines an individual’s optimal borrowing/saving choice?
Their discount rate (ρ) compared to the interest rate (r).
How do banks make money?
By borrowing at low interest and lending at higher interest.
What is legal tender?
Money that must be accepted as payment by law.
What is bank money?
Money created by commercial banks through lending—not legal tender.
What are maturity and liquidity transformation?
Converting short-term deposits into long-term loans; liquid assets into illiquid ones.
What is a bank run?
When many depositors withdraw funds at once, risking bank failure.
What is the policy interest rate?
The central bank’s rate for lending base money to commercial banks.
What is the principal-agent problem in lending?
Lenders can’t ensure that borrowers use the money responsibly.
What is credit rationing?
When people are denied credit or offered worse terms due to low wealth.
How do equity and collateral reduce lending risk?
They make borrowers share the risk and give lenders a fallback if the loan isn’t repaid.
