AP MACROECONOMICS - Unit 4 Vocab

3 Functions of Money

A medium of exchange, a unit of account, and a store of value (purchasing power)

The Barter System

Goods and services are traded directly and no money is exchanged.

“Double Coincidence of Wants”

Problem in a barter economy where two people must each have a good or service that the other desires, and be willing to trade for it.

Commodity Money

Something that performs the function of money and has intrinsic value (ex: gold can be used as money or in jewelry)

Representative Money

Something that serves as money but isn’t the exact form (ex: slip of paper represents a gold bar).

Fiat Money

Something that serves as money but has no other value or uses (ex: paper money, digital currency)

Characteristics of Good Money

Generally accepted, scarce, and portable and divisible into smaller units.

Liquidity

Ease with which an asset can be accessed and used as a medium of exchange.

M1

Highest liquidity; includes currency in circulation, checkable bank accounts (checking accounts), and savings accounts.

M2

Near-Moneys; includes time deposits (certificate of deposits (CDs)) and money market funds.

M0

Monetary Base; includes currency in circulation (coins, paper currency) and bank reserves (physical cash “sitting on the floor” at a bank).

The Financial Sector

Network of institutions that link borrowers and lenders, including banks, mutual funds, pension funds, and other financial intermediaries.

Assets

Anything tangible or intangible that is owned.

Liability

Anything that is owed.

Loan

Agreement between borrower and lender.

Fractional Reserve Banking

When banks hold only a small portion of deposits to cover potential withdrawals and then loan the rest of the money out.

Balance Sheet

Statements of assets and liabilities; both sides should balance.

Demand Deposits (checkable deposits)

Money deposited in a central bank in a checking account.

Required Reserves

Percent of one’s bank account that banks can’t touch (must hold on to it)

Excess Reserves

Amount a bank can loan out

Deposit Expansion Multiplier

1/rr

Change in Money Supply

Change in excess reserves * money multiplier

Transaction Demand for Money

People hold money for everyday transactions

Asset Demand for Money

People hold money since it’s less risky than other assets.

Shifters of the Money Demand Curve

Changes in price level (inflation, deflation),  changes in income, and changes in technology.

Expansionary Monetary Policy

The FED increases the money supply to lower interest rates in order to increase investment spending.

Contractionary Monetary Policy

The FED decreases the money supply to raise interest rates in order to decrease investment spending.

Increasing the Money Supply in a Recession

Decreases interest rate —> increases investment spending —> increases AD

Decreasing the Money Supply in an Inflation

Increases interest rate —> decreases investment spending —> decreases AD

Loanable Funds Market

Where savers and borrowers are exchanging funds; there’s an inverse relationship between real interest rate and quantity loans demanded while there’s a direct relationship between real interest rate and quantity loans supplied.

Shifters of the Demand for Loanable Funds

Change in perceived business opportunities, changes in government borrowing.

Shifters of the Supply for Loanable Funds

Changes in saving, changes in foreign investment, changes in expected profitability.

The Federal Reserve

Nation’s central bank; has two mandates (dual mandate): to maximize employment and stabilize prices.

Role of the Federal Reserve

To be the “lender of last resort"

Limited Reserve Regime

The FED conducts monetary policy using the reserve requirement, the discount rate, and open market conditions.

The Reserve Requirement

Percent of checkable deposits banks must hold in reserve.

The Discount Rate

The interest rate the Fed charges banks

Open Market Operations

The buying and selling of U.S. Treasury Bonds

Ample Reserve Regime

Fed conducts monetary policy through interest and reserve balances (IORB), overnight reverse repurchase agreement facility (ON RRP), discount window, and open market conditions

Administered Rates

IORB Rate, ON RRP Rate, and discount rate