UB ECO 181DIS - Chapter 11 The Monetary System-2 (13 pages)

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Chapter 11 The Monetary System-2



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Chapter 11 The Monetary System-2

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Pages:
13
School:
University at Buffalo-SUNY
Course:
Eco 181dis - Intro To Macroeconomics
Intro To Macroeconomics Documents
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Chapter 11 The Monetary System Money vs The set of assets that people use regularly to Wealth Total accumulation of Importance of money Without money trade would require the of one good or service for another Thus every trade would require a which is where one person is selling what you and they want what you are This would require a lot of Thus money makes trade Permits facilitates 4 Functions of Money 1 an item buyers give to sellers when they want to purchase g s 2 the yardstick people use to post prices and record debts 3 an item people can use to transfer purchasing power from the present to the future Many assets can take on the form of stores of value and most are better stores of value due to But only money can take on all 3 functions of money Money is not a perfect store of value due to 4 A property of an item that makes it desirable for use as a means of settling What is counted as money What backs money For commodity money it is it s Convertible money For fiat money it is Fiduciary Monetary System A system in which currency is issued by the and its value rests on the public s confidence that it can be exchanged for Most important property of money Liquidity refers to how easily an asset can be turned into a There are many ways of storing wealth Physical Assets and financial Assets Which ones should be counted as money Money supply is the quantity of money in the economy I Transactions Approach A method of measuring the money supply by looking at money as a medium of exchange M1 Are credit cards counted as money II Liquidity Approach A method of measuring the money supply by looking at money as a store of value Since can easily be converted to many believe that it should be counted as M2 IN CLASS PROBLEM For each of the following transactions what is the initial effect increase or decrease on M1 or M2 a You sell a few shares of stock and put the proceeds into your savings account b You sell a few shares of stock and put the proceeds into your checking account c You transfer money from your savings account to your checking account d You discover 25 under the floor mat in your car and deposit it in your checking account e You discover 25 under the floor mat in your car and deposit it in your savings account Financial System and the Banking System Financial System is the group of institutions that helps match the of one person to the of Two Types of financial Systems I Financial Markets institutions through which savers can provide the funds to borrowers market II and Market Financial Bank is the regulator of the commercial banks Overview of the Fed Central bank an institution that the banking system and the money supply both domestically and in the foreign currency market Federal Reserve Fed the central bank of the U S Established in 1913 by the Federal Reserve Act signed by President Woodrow Wilson Roles of the Fed 1 Monetary policy the setting of the by policymakers in the central bank in order to influence 2 The Fed regulates the 3 They are Banker to meaning that they hold known as reserves at the Fed 4 The Fed sometimes to banks known as Lender of Last resort 5 The Fed also acts to influence the value of the in the Two Mandates of the Fed 1 Keep Low 2 Keep low Is the Fed a part of the government The Fed is an institution meaning that they can make policy without I Structure of the Fed II III It is the FOMC that decides on the amount of In order to explore how the Fed conducts monetary policy we need to look at the banking system in more detail Banks affect on Money The U S is a Fractional reserve banking system banks keep a of deposits as and use the rest to make Reserves can be held or The Fed establishes reserve requirements rr regulations on the amount of reserves that banks must hold against deposits Required Reserves A bank usually wants to their reserve holdings since they can by using their s other ways Banks may hold more than this minimum amount if they choose These are called Excess Reserves Excess Reserves The reserve ratio R When R rr The bank has Excess Reserves and they are considered Bank of LaLa Land Assets Liabilities Reserves 150 Deposits 500 Loans 350 What is the largest new loan that LaLa Bank can make if the rr is 10 Effects of a Change in Deposits on the Banking System Assumptions 1 Reserve ratio is 10 percent 2 Zero excess reserves are kept 3 Transactions deposits are the bank s only liabilities and loans are the bank s assets 4 Every time a loan is made the proceeds are put into a deposit account Banks T account Suppose that the Fed buys 100 000 of bonds from an individual called Open Market Operation and this person deposits As a result of this action Money Supply Assets Liabilities Eventually this bank will keep an extra in reserves and make a loan of Assets Liabilities As a result of this loan MS When banks make loans they Round 2 This 900 000 gets deposited into another bank If we assume that the bank quickly lends out their new excess reserves then the changes in the T accounts would be Assets Liabilities How much does the money increase by So far MS has increased by Eventually total deposits and the money supply will increase by generated by initial of bonds and the other generated by deposit creating The maximum increase in the MS that can arise can be determined by the Money Multiplier A number that when multiplied by a change in in the banking system yields the resulting change in the Money Multiplier The money multiplier is inversely related to the Potential Money Multiplier Formula The actual money multiplier usually is than the potential money multiplier because People hold some of their wealth as Banks may Excess Reserves Real world money multipliers M1 multiplier 1 5 to 2 0 M2 multiplier 6 5 in the 1960s to over 12 in the mid 2000s about 6 since then


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