week 4 Flashcards
Savings, investment, and Financial Markets; the monetary system
What is money?
- A set of assets in an economy that people regularly use to buy goods and services from other people
- Liquid
what are the three functions of money which distinguish it from other assets?
1. Medium of exchange
Item that buyers give to sellers when they want to purchase goods and services
2. Unit of account
Yardstick people use to post prices and record debts
… A Measure of economic value
3. Store of value
Item that people can use to transfer purchasing power from the present to the future
what is a unit of account?
Something which, if I give it to you, you know its worth (or can immediately find out)
Money is the _____ ________ of assets
most liquid
what is liquidity?
the ease with which an asset can be converted into the economy’s medium of exchange.
why is money the most liquid of all assets?
it IS the medium of exchange thus the most liquid
Generally, the _____ liquid an asset, the _____ its return.
Generally, the more liquid an asset, the lower its return.
what is money’s return compared to other assets?
Not surprisingly, money has the lowest return of any asset (zero or close to zero).
What are the 2 TYPES of money?
- fiat money
- commodity money
what is fiat money?
Money without intrinsic value that is used as money because of government decree
SATISFIES THE THREE ROLES OF MONEY + HAS NO INTRINSIC VALUE
what does intrinsic value mean?
Intrinsic value: would have value even if it were not used as money
what is critical to remember with fiat money?
peoples’ trust is critical!!!!!
..If people lose faith, fiat money will lose its value (e.g., Russian Ruble in 90ies).
if people have faith in each other (fiat money) then..?
No government is neede! (BITCOIN… STONES ON YAP)
what is COMMODITY money?
Money that takes the form of a commodity with intrinsic value
Satisfies the three roles and has intrinsic value
The money stock is calculated how?
By adding all the fiat money up in a country
Formula for money stock M1
M1 = CURRENCY + DEMAND DEPOSITS + CHECKABLE DEPOSITS
M2 measure of the money stock is calculated by…?
M2 = M1 + short-term savings deposits + money market mutual funds
Who regulates fiat money?
Central Banks
WHAT is a Central bank?
It is a legal entity with authority to:
- Oversee the banking system
- Regulate the quantity of money in the economy
When was the bank of england founded? What does it do?
1964
- Monetary policy committee sets interest raves to achieve 2% CPI inflation rate
- New powers for financial regulation, with the abolition of FSA in the aftermath of the global financial crisis
(The Financial Services Authority (FSA) was abolished because it was criticized for not effectively preventing the financial crisis in 2008. After the crisis, it was decided that a new approach to financial regulation was needed)
When was the US FED reserve created? What is its policy goal?
1913 - created after a series of bank failures in the decade prior
POLICY GOAL: ensure the health of the nation’s banking system
When was the ECB created? What’s it’s policy goal?
1988
POLICY GOAL: achieving price stability
Inflation rates below but close 2% over medium run
what is Excess Reserve?
when banks hold reserves above any required legal minimum
e.g., First National Bank : Reserve ratio 10%
What is the process of money creation through banks? (Money mutliplier)
The process of money creation continues…
- Suppose the borrower from First National Bank uses the $90 to buy some goods, the proceeds of which are then deposited in Second National Bank
→ Second National Bank then holds 10% in reserves ($9) and lends out a further $81
and so on… and on… and on…
Original deposit = $100.00
- First National lending = $ 90.00 [= .9 × $100.00]
- Second National lending = $ 81.00 [= .9 × $90.00]
- Third National lending = $ 72.90 [= .9 × $81.00]
Total money supply (sum of the above) = $1,000.00
