6.5 introducing money / Lecture 10

money was invented to solve these problems

(1) needed a means of exchange

(2) you want something that will remain valuable until you’re ready to buy something else

(3) need a unit of account that is the same across the system of prices

commodity money

a good that is valued for its own characteristics but performs the 3 functoins of money i.e. grains but grains are perishable and not practical but precious metals could be stolen even though they held higher value so you didn’t need to keep a ton of them around - they also weren’t good for small purchases

what properties should commodity money satisfy?

(1) portable

(2) durable

(3) easily verifiable quality

when you buy something w/ a debit card, what happens

if you buy something for $5, you transfer $5 bank’s liability from ourself to the supermarket - the bank owed you money but now they owe the store

if the store has an account at the same bank, the bank just transfers that money over and its balance sheet stays the same, they transfer the money to the store’s account

bank money

money in the form of deposits in commercial banksw

why have bank runs become less of a problem?

• introduction of gov sponsored schemes that guarantee bank deposits up to a certain value

• regulatoins that require banks to hold a min share of liquid assets

double coincidence of wants k

unlikely occurrence that two people each have a good the other wants

**it’s a huge waste of resources for people to search for this so money is better

5 criteria make a good suitable for use as a medium of exchange:

• must be acceptable (usable) by most people

• standardized quality so that any two units are identical

• durable so value isn’t lost by spoilage

• valueble relative to its weight so amounts large enough to be useful in trade can be easily transported

• should be divisible bc diff goods are valued differently

base money

commodity money has been replaced by base money aka central bank money

**base money = liability of the central bank

central bank supplies two forms of base money

(1) currency (notes and coins)

(2) reserves = deposits commercial banks have in their accounts at the central bank - can be converted to currency on demand at central bank

two components of money in modern economies

(1) currency: total amt of banknotes and coins in circulation

(2) bank money: total bank deposits in commercial banks

bank money makes up most of money in modern economies