week 1: history of financial crisis Flashcards
Why was the federal reserve system established?
in response to the banking crisis
1989: there were _____ bank failures.
534
2010: ____ bank failures
157
difference between 1989 vs 2010 bank failures
In 1989, many banks that failed were small
But in 2010, some very large banks failed.
when was BLACK MONDAY?
19th Oct 1987
what happened on black monday? ‘87
One of the most significant stock market crashes in history.
stock market bubble crashed
what happened in asian financial crises (late 1990s)
For a v. short period time, all of these Asian currencies collapsed:
Indonesia
Malaysia
Thailand
Korea
Phillipines
What is Barter?
Barter is the exchange of goods + services for other g+s
What is the main problem with bartering?
It requires a double coincidence of wants
i.e., if I want an apple for an orange, I first must find someone who wants an orange AND is selling an apple
Barter also requires the establishment of __________________
Too many prices.
e.g., if we have $n$ goods, we could have up to $n(n-1)/2$ prices.
How does n(n-1)/2 work?
In a barter system, goods are directly exchanged for other goods without using money. Now, imagine you have
𝑛 different types of goods available for exchange.
To establish fair exchange rates between all these goods, you need to determine the relative value of each good compared to every other good. For example, if you have 3 goods (let’s call them A, B, and C), you need to establish the exchange rates for A:B, A:C, and B:C.
For n goods, the number of possible pairwise exchanges (exchange rates) can be calculated using the formula:
Number of pairwise exchanges
= 𝑛(𝑛− 1 )/2
Let’s break down the formula:
n represents the number of different types of goods available.
(𝑛 − 1) represents the number of other goods each good needs to be compared with (excluding itself).
Dividing by 2 eliminates double counting because the exchange rate for A:B is the same as B:A.
For example, if you have 4 goods, the number of pairwise exchanges needed would be:
[4×(4−1)]/2
= (4×3)/2
=12/2
=6
So, in a barter system with 4 goods, you would need to establish 6 different exchange rates to facilitate trading efficiently.
As the number of goods increases, the number of pairwise exchanges (and thus the number of prices that need to be established) grows rapidly, making the barter system increasingly complex and impractical compared to using a single standardised medium of exchange like money.
what is the diagram of monetary exchange of establishment of too many prices
what’s the solution to having too many prices?
To establish a generally accepted commodity as a medium of exchange that also serves as the unit of account (numeraire)
As long as all parties agree to the arrangement, then the seller only needs to find someone ____________ + is in possession _____________.
seller only needs to find someone willing to buy their goods + is in possession of the medium of exchange
having an accepted commodity of exchange means that only ___ prices are needed
n -1
over time, many ____________ used as a medium of exchange
commodities
e.g. shells, stone, copper
later… commodities were substituted by _________________ issued by _________ and more recently, _____________
Later, commodities substituted by pieces of paper (fiat currency) issued by the central bank & more recently, electronic transfers
How did direct finance: bilateral exchange develop?
in ancient societies, natural disasters could cause disastrous effects on household consumption patterns, so:
a system of credit was developed to mitigate bad effects
– Fortunate households lent their surplus foods to affected households, expecting that the poor household would reciprocate in the future when fortunes may be reversed
What was invented to keep accounts of who owes whom?
System of tallies
What is direct finance thru bilateral exchange?
Direct finance through bilateral exchange simply refers to the direct exchange of goods or services between two parties without the involvement of any intermediaries such as banks or financial institutions.
In simple terms, it’s like when you and a friend swap items or services directly. For example, if you trade your skateboard for your friend’s video game console, that’s a form of direct finance through bilateral exchange. There’s no need for money or any third party; it’s just a direct exchange between the two of you.
What is direct finance through markets?
In Modern Societies, organized markets allow more efficient ways for bringing together borrowers & lenders.
What do participants trade in the stock markets?
Participants trade corporate ownership shares
The holder of a corporate ownership share is entitled to —?
Holder is entitled to a proportional share of profits + losses of the issuing firm (equity contracts)
What is equity?
A proportion of profits
Direct finance is suitable for what kind of firms?
large & old firms that have established good reputation in the market.
Indirect finance [thru banks] is suitable for what kind of firm?
Small firms & households who need to borrow funds but lack credentials to borrow from market.
what do banks offer to households + firms that want to postpone spending?
Deposits
Who do banks offer loans to?
Households + firms that wish to postpone spending but don’t have the funds
The ______ ______ shows what a bank owns (assets) and what it owes (liabilities)
Balance Sheet
what are assets + liabilities of a bank?
- assets are what the bank owns
- liabilities are what the bank owes
Equity is …?
Equity is what is owed to the owners
If equity is positive/negative the bank is…?
- Equity POSITIVE bank SOLVENT
- Equity NEGATIVE bank INSOLVENT
If the left hand side is enough to cover the ________, the bank is ________
If left hand side is enough to cover the deposits, the bank is solvent
What is autarky?
An economy that is self sufficient (closed economy)
The benefits of specialisation can be enhanced by …?
Allowing exchange of goods + services across national borders. (Theory of comparative advantage)
This is international trade
Similarly, allowing _____ to flow across national borders ______ ___________
Allowing capital to flow across national borders expands borrowing and lending opportunities
These are international capital flows
Draw the market for $ diagram
When currencies are freely traed, the determinant for exchange rates is the…?
Market
