Blog PowerPoint

All About Money

Christa WashingtonAP EconomicsApril 14,2013

7th period

MONEY

• Uses of money:• Medium of Exchange: where you’re able to buy

goods/services(EX. Barter, trade)• Unit of Account: est. economy worth• Store of Value: money holds its value over a period of

time

• Types of Money:• Commodity Money: swapping goods• Representative Money: EX. IOU• Fiat Money: money because gov’t says

MONEY (CONT’D.)

• Characteristics of Money:– Durability: how durable is $– Portability: $ is portable– Divisibility: $ can be divided down– Uniformity: U.S. $ will be uniformed– Scarcity: $2 bills– Acceptability: $ is acceptable everywhere

• Money Supply:– M1 Money: consist of:

• Currency in circulation(paper $/coins)• Checkable deposit(demand deposit)• Traveler’s check

– M2 Money: consist of:• M1 money• Savings account• Money market account• Deposits held by banks outside the U.S.

How Banks WorkASSETS

-Reserves: - Req. reserve(rr): % required by Fed to keep on hand to meet demand -Excess Reserves (er)- % reserved over/above amount needed to satisfy the minimum Reserve Ration set by FED

-Loans to firms, consumers, and other banks-Loans given to gov’t= treasury securities-Bank property- if bank fails, you could liquidate building/property

LIABILITIES + EQUITY

-Demand deposits ($ put in bank)-Timed Deposits (CD’s)-Loans from: FED Reserves & other banks-Shareholders Equity: to set up a bank, you must invest your own money in it to have a stake in the bank’s success/failure

Reserve Requirement

• Amount, set by FED, is the required reserve ratio

• Typically the required reserve ratio= 10%

EXAMPLE

• THE RESERVE RATIO IS 5%. YOU DEPOSIT $1000 INTO A BANK. HOW MUCH IS THE BANK REQUIRED TO ADD TO ITS RESERVE?– .05 x 1000= $50 RES. RATIO

• HOW MUCH $ CAN THE BANK NOW LOAN OUT?– 1000(DEPOSITED)- 50(RES. RATIO)= $950 LOAN

THE FEDERAL RESERVE BANK

Significance of a Fractional Reserve

1. Banks can create $ by lending more2. Required Reserve doesn’t prevent bank

panics because banks must keep their req. res.

3. Reserve req. gives FED control over how much $ banks give

Functions of FED

1. Control the nation’s money supply through monetary policy: - adjust interest rate

- Circulation of currency2. Issue paper currency3. Serve as a “clearing house” for checks4. Regulating banking activity5. Serve as a bank for banks

Balance Sheet

• Statement of assets and claims summarizing final position of a firm or bank at some point in time

• *MUST BE BALANCED AT ALL TIMES!!

ASSETS

WHAT YOU OWN

LIABILITIES + NET WORTH

WHAT YOU OWE

THE REQUIRED RESERVE RATIO

Required Reserve Ratio

• The % of demand deposits that must be stored as vault cash or kept on reserve as Fed Funds in the bank’s acct. w/ FED Res.

• Req. Res. Ratio determines $ multiplier( 1/rr)• res. Ratio rate of $ creation in banking sys &

expansionary• res. Ratio rate of $ creation in banking sys &

contractionary

• Changing req. res. Ratio is least used tool of monetary policy & is usually held constant @ 10%

The Money Multiplier

• Shows us the impact of a change in demand deposits on loans and eventually $ supply

• Indicates total # of $ created in the banking sys by each $1 addition to monetary base

• To calculate:– Money Multiplier= 1/ res.ratio

4 Types of Multiple Deposit Expansion Questions:

• Type 1: Calculate the initial ∆ in excess reserves.

• Type 2: Calculate ∆ in loans in banking system• Type 3: Calculate ∆ in $ supply• Type 4: Calculate ∆ in demand deposits

FORMULAS

• Req. Res= amt of deposit x req. res. Ratio• Excess Res= total res.- req. res.• Max amt a single bank can loan= the ∆ in er caused by a

deposit • Money Multiplier= 1/ Req. Res. Ratio• Total change in loans= amt single bank can lend x money

multiplier• Total ∆ in $ Supply= total ∆ in loans + $ amt of FED Actions• Total ∆ in demand deposits= total ∆ in loans + any cash

deposited

Monetary vs. FiscalFISCAL POLICY

• Congress:• TAX

Or• SPEND

MONETARY POLICY

• The FED:• OMO(open market operations): you

could buy/sell bonds• Reserve Requirement• Discount Rate: interest rate charged

by FED for overnight loans to commercial banks

• Federal Funds Rate: interest rate charged by one commercial bank for overnight loans to another commercial bank

*The FED has several tools to manage the $ supply by manipulating the er held by banks, a practice known as monetary policy

Monetary vs. Fiscal (cont’d.)

MONETARY POLICY OPTION EXPANSIONARY“easy money”

CONTRACTIONARY“tight money”

OPEN MARKET OPERATIONS Buy bonds Sell bonds

REQUIRED RESERVE Required Reserve Ratio Required Reserve Ratio

DISCOUNT RATE Discount Rate Discount Rate

FEDERAL FUNDS RATE Federal Funds Rate Federal Funds Rate

Loanable Funds Market

• Market where savers/borrowers exchange funds at real rate of interest (r%)

• Demand for loanable funds, or borrowing comes from households, firms, gov’t and foreign sector- also the supply of bonds

• Supply of loanable funds, or savings comes from households, firms, gov’t & foreign sector- also the demand for bonds

• PRIME RATE: interest rate that banks charge to their most praise worthy customers

∆ in the Demand for Loanable Funds

• Remember that demand for LF= borrowing• More borrowing= more demand for LF• Less borrowing= less demand for LF• EXAMPLE: – Gov’t deficit spending= more borrowing= more

demand for LF– Less investment demand= less borrowing= less

demand for LF

∆ in Supply of Loanable Funds

• Remember supply of LF= saving • More saving= more supply of LF• Less saving= less supply of LF• EXAMPLE: – Gov’t budget surplus= more saving= more supply

LF– Decrease in consumers’ MPS= less saving= less

supply of LF

Countercyclical Policies