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functions of money
medium of exchange, unit of account, store of value
M1 definition of money
includes currency held by the public plus checkable deposits in commercial banks and thrift institutions
M2 definition of money
includes M1 plus savings deposits, time deposits less than $100k, and money market mutual funds (MMMF)
M3 definition of money
money market mutual funds over $100k (ex. retirement funds)
thrift institutions
banks that are specialized to give you help (credit unions, smaller banks, etc.)
commercial banks
bigger and almost a one stop shop (wells fargo, truist, etc.)
near-monies
certain highly liquid financial assets that do not function directly or fully as a medium of exchange but can be readily converted into currency or checkable deposits
where is the money of value found
the government's ability to manage it
transaction demand (Dt)
use money as a medium of exchange
asset demand (Da)
use money as a store of value
how do we find interest rates on a money market demand graph
where the supply and demand for money intersect
federal reserve system
they run the banking system, print money, and store money for banks
board of governors
the central authority of the US money and banking system, nominated by POTUS and approved by Senate, 7 members
FOMC (federal open market committee)
sets monetary policy and controls nation's money supply and influences interest rates; made up of board of governors, the president of the NY fed, and 4 of the remaining presidents of the fed
banker's bank
where banks keep their money; fed accepts the deposits of and make loans to banks and thrifts
fed functions
issuing currency, setting reserve requirements, acting as a fiscal agent, supervising banks, and controlling the money supply
what is the reserve ratio
the fraction of deposits that banks hold as reserves; commercial bank's required reserves / commercial banks checkable-deposit liabilities
banks create money when they
make loans
banks destroy money when they
fail to reissue loans that are paid off
what are excess reserves
bank reserves in excess of required reserves; actual reserves - required reserves
liabilities
debt with monetary value; an amount owed by a firm or an individual
the amount by which a bank's actual reserves exceed its required reserves is called what
excess reserves
two basic functions of a bank
accept deposits and make loans
required reserves
reserves that a bank is legally required to hold, based on its checking account deposits
federal funds rate
the interest rate collected by banks on overnight loans
the monetary multiplier
the multiple of its excess reserves by which the banking system can expand checkable deposits and thus the money supply by making new loans
money multiplier formula
1 / required reserve ratio
tools of monetary policy
open market operations, the reserve ratio, and the discount rate
what is the most important tool for influencing the supply of money
open market operations
open market operations
the fed's buying and selling government bonds to/from commercial banks and the general public
why does the fed manipulate the reserve ratio
influence the ability of commercial banks to lend
raising the reserve ratio
banks lose excess reserves diminishing their ability to create money by lending
lowering the reserve ratio
transforms required reserves into excess reserves and enhances the ability of banks to create new money by lending
what are the 2 ways changes in the reserve ratio affect the money-creating ability
amount of excess reserves and the size of the monetary multiplier
discount rate
the interest rate the fed charges commercial banks on the loans they make to them
decrease in the discount rate
encourages commercial banks to obtain additional reserves; when commercial banks lend new reserves, money supply increases
increase in the discount rate
discourages commercial banks to obtain additional reserves; fed raises discount rate when it wants to restrict money supply
easy money policy
designed to increase the supply of money
how is the easy money policy done
buying government securities, lower the reserve ratio, and lower the discount rate
tight money policy
designed to decrease the supply of money
how is the tight money policy done
selling government securities, raise the reserve ratio, and raise the discount rate
market for money cause and effect chain
the supply of money affects interest rates > interest rates affect investment > investment affects aggregate demand > aggregate demand affects equilibrium GDP and price level
strengths of monetary policy
speed and flexibility, isolated from political considerations
shortcomings of monetary policy
less control, changes in velocity (money), and cyclical assymetry
cyclical assymetry
fed can tighten the money easily and contract the economy but cannot expand the economy easily or efficiently
net exports effect
where we take our money can determine how far it goes
net exports effect when higher interest rates
higher valued currency so we lose X
net exports effect when lower interest rates
lower valued currency so we gain X
loanable funds market
supply and demand for loans
supply for loans
the higher the interest rate, the more funds people are willing to make available for loans
determinants of supply for loans
less savings = left more savings = right
demand for loans
higher interest rates means businesses are less likely to borrow money
determinants of demand for loans
returns on investments and excessive spending by government beyond taxable revenue
if businesses think they're not going to receive returns what happens to the demand for loans
leftward shift
if local governments keep borrowing money from the government in the form of loans what will happen to the demand for loans
rightward shift
crowding out affect in relation to the demand for loans
higher interest rates means that businesses cannot pay for the interest rates
range of interest rates is influenced by what
risk, maturity, loan size, and taxability
what is the equilibrium interest rate determined by
the demand and supply of loanable funds
time-value of money
the idea that $1 can be converted into more than $1 of future value through compound interest and therefore that $1 to be received sometime in the future has less than $1 of present value
interest rates on investment loans affect
the total level of investment (= the levels of total spending and total output), allocate money and real capital to specific industries and firms, level and composition of R&D spending
usury laws that establish an interest-rate ceiling below the market interest rate may
deny credit to low-income people, subsidize high-income borrowers and penalize lenders, diminish the efficiency with which loanable funds are allocated to investment and R&D projects
3 sources of economic profit
the bearing of uninsurable risk, the uncertainty of innovation, and monopoly power
profit and profit expectations affects
levels of investment, total spending, and domestic output
Note
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