econ!

administered rates

interest rates that the Fed sets or

administers to affect the policy rate (Fed funds rate)

and overall economic conditions; these rates include

the interest on reserve balances rate (IOR) and the

discount rate.

aggregate demand curve

a graphical depiction

of the relationship between the level of desired

expenditures in an economy and the price level

aggregate supply curve

a graphical depiction of

the relationship between the quantity of goods and

services firms wish to supply and the price level

ample reserve policy

the use of the Fed’s

administered rates to affect the policy rate (Fed

funds rate) and overall financial conditions; ample

reserve policy is most effective when the supply of

bank reserves is at a level where small changes to the

supply do not affect the demand for reserves. Because

of this level of reserves, the Fed uses administered

rates to influence the demand for reserves in banks.

This has been the official monetary policy of the U.S.

since 2008.

asset price bubble

a situation where the market

price diverges from the fundamentals of supply and

demand

averrage labor productivity

total output divided by the

quantity of labor employed in its production

bank panic

the simultaneous failure of many banks,

often following multiple bank runs

bank run

a sudden rush of depositors seeking to

withdraw funds from the banking system

barriers to entry

conditions that prevent firms from

freely entering or exiting a market

building and loan associations

cooperative

organizations in which members buy shares in

exchange for the chance to become eligible for a

home mortgage or large loan

business cycle

fluctuations in aggregate economic

activity

capital

one of three factors of production; in classical

economics, capital refers to money or physical assets.

Plows or mature tree crops may be considered forms

of capital in this context.

capital goods

long-lived goods that are themselves

produced and are used to produce other goods and

services, but are not used up in the production

process

cartel

a group of firms that collude in a given

market to restrain competition, often making quota

arrangements among themselves

coase theorem

the proposition that if private

parties can bargain without cost over the allocation

of resources, then they can solve the problem of

externalities on their own

comparative advantage

the ability to produce a good

or service at a lower opportunity cost than other

producers

competitive market

a market with many buyers and

sellers trading a homogenous good or service in

which each buyer and seller is a price taker

complements

two goods for which a rise in the price

of one leads to a decline in the demand for the other

consumer price index 

an index constructed by

comparing the cost of purchasing a fixed basket of

goods at different times

consumer surplus

the difference between the amount

that a buyer would be willing to pay for a good or

service and the price actually paid

consumption

spending by households on goods and

services, with the exception of the purchase of new

housing

crowding out

the decrease in private investment that occurs as a result of a reduction in government saving or an increase in government borrowing

currency

coins and bills in the hands of the public

cyclical unemployment

unemployment caused by

deviations of output from its potential level

deadweight loss

the reduction in total surplus that

results from a market distortion such as a tax

demand curve

a graphical representation of the

quantity of a good or service demanded as a function

of the price

demand schedule

a table showing the relationship

between the price of a good or service and the

quantity demanded

depression

a severe recession

diminishing returns to scale

the property whereby

each additional increase in inputs results in a smaller

increase in the quantity produced

discount rate

the interest rate the Fed charges banks

for short-term loans; this rate serves as a “ceiling”

for the policy rate (Fed funds rate).

economic profit

the difference between the revenue

realized by a producer and the opportunity cost of

production

elasticity

the percentage change in quantity demanded

or supplied as a result of a one percent change in

price

entrepreneur

an individual who takes on the risk

of attempting to create new products or services,

establish new markets, or develop new methods of

production

equilibrium

a situation in which the forces in a system

are in balance so that the situation is stable and

unchanging

excludable good

a good that an individual can prevent

another individual from using

excludability

the ability to prevent buyers from

enjoying the benefits of consuming a good or service

without paying for it

expansion

a period between a trough and a peak in

economic activity

externality

when the action of one person affects the

well-being of someone else, but where neither party

pays nor is paid for these effects

federal funds rate

the rate that banks charge other

banks when they lend reserves

final goods

goods or services that are purchased by

their ultimate user

financial markets

the institutions through which

individuals with savings can supply these funds

to persons or firms that wish to borrow money to

purchase consumption goods or invest in physical

capital

fiscal policy

the use of taxes and spending to influence

aggregate demand and through it the level of overall

economic activity

fixed cost

a cost of production that is independent of

the quantity produced

fixed exchange rate

when the value of one unit of a

country’s currency is maintained at a stated level of

another country’s currency

foreclosure

when a lender, in an attempt to recover

the balance of a loan, takes possession of and sells a

mortgaged property because the borrower failed to

make payments

foreign direct investment

when a company or

individual acquires assets in a foreign country that

they will manage directly

frictional unemployment

unemployment that results

because it takes time for workers to search for the

jobs that are best suited to their tastes and skills

gains from trade

the benefits that both individuals or

nations realize from mutually beneficial exchange

government purchases

spending on goods and

services by federal, state, and local governments

gross domestic product

the market value of

final goods and services produced in an economy

during a specified period of time

gross domestic product per capita

estimate

of national output (gross domestic product), divided

by the population; its key advantage as a measure

of economic performance is in giving an average

level of income per person, which can be compared

between countries.

human capital

skills and experience that are

acquired through education, training, and on-the-job

experience that increase a worker’s productivity;

considered an important factor in facilitating

improvements in productivity and economic growth

illiquid

describes a security or other asset that cannot

quickly and easily be sold or exchanged for cash

without a substantial loss in value; a bank or other

institution is described as illiquid if it is cash poor

and primarily holds only illiquid assets.

imperfect competition

the case of a market with a

small number of sellers, so that sellers have market

power

inferior good

a good for which the quantity demanded

falls as buyers’ income increases

inflation

a general increase in prices

insolvent

describes a state of financial distress in

which an individual or a business lacks sufficient

funds to pay their debts; if a bank is insolvent, it

cannot repay its depositors because its liabilities are

greater than its assets.

installment financing

buying something and paying

for it gradually, usually in monthly increments

institutions

the “rules of the game” in a society, which

shape the costs and benefits of economic decisions

interest on reserve balances rate (IOR)

the interest

rate that the Fed pays banks to hold money in their

reserves; this rate serves as a “floor” for the policy

rate (Fed funds rate). This is the primary tool of

monetary policy in the U.S.

intermediary

a third party who acts as a link between

two others who wish to transact business

intermediate good

a good or service that is used in the

process of producing other goods and services

investment

spending on capital equipment,

inventories, and structures, including household

purchases of new housing

keynesian model

a model of short-run aggregate

economic fluctuations inspired by the analysis of

British economist John Maynard Keynes, which

attributes short-run deviations in output from

potential to variations in the level of aggregate

demand or aggregate supply

labor force

the sum of those individuals who are

employed and those who are seeking paid work but

have not found it

labor force participation rate

the fraction of the

working-age population who are in the labor force

law of demand

Holding other things equal, the quantity demanded is negatively related to the price.

law of supply

Holding other things equal, the quantity

supplied is positively related to the price.

lender of last resort

a lender that functions as the

ultimate source of credit to banks during a banking

panic; usually the role of a central bank

leverage

borrowing to finance part of an investment,

such as buying stocks on margin

limited reserve policy

the use of the required reserve

ratio, the discount rate, and open market operations

by the central bank to manage the money supply in

order to affect overall financial conditions; this was

the official monetary policy of the U.S. prior to 2008.

Many countries still use this system.

limited reserve system

a banking system where the

banks are required to hold a specified amount of

reserves (the required reserve ratio); if banks do not

meet the reserve requirement, they must borrow from

other banks or the central bank.

liquidity

the ease with which a nonmonetary asset

may be converted into money

logrolling

the practice of elected officials trading votes

marginal cost

the additional cost of production

associated with a small increase in the quantity

produced

marginal revenue

the additional revenue resulting

from a small increase in the quantity produced

market failure

any situation in which a market does

not do what market theorists believe it should—

allocate goods and services efficiently; externalities

and monopoly/oligopoly are two commonly

discussed failures; a situation where the allocation of

goods and services is not efficient, for instance when

too much of a good (e.g., pollution) or too little of a

good (e.g., clean air) is provided by the free market

market power

a situation in which one firm, or a

group of them acting as a cartel, can control prices in

a market, often by restricting output, and thus have

market power; in a theoretical, purely competitive

market, this is not possible.

monetary base

the quantity of currency plus bank

reserves

monetary policy

the use of the supply of money in

the economy by the Federal Reserve to influence the

level of aggregate demand

money

an asset that is a medium of exchange, unit of

account, and store of value

money multiplier

the ratio of the money supply to the

monetary base

money supply

the quantity of money available to the

economy

monopolistic competition

a market in which there

is free entry or exit, but every producer supplies a

differentiated product and faces a downward-sloping

demand curve

monopoly

a market in which there is a single producer

moral hazard

the risk that a borrower or insured party

will behave in a way that is riskier than desirable for

the lender or insurer

mortgage-backed securities

shares in the returns

from a large number of bundled mortgage policies

mutual fund

a fund that pools the savings of a large

number of small investors and invests them in a

portfolio of bonds, stocks, and other assets

natural rate of unemployment

the level of

unemployment that would exist if the economy were

producing at its potential output

net capital outflow

the difference between the

purchases of foreign assets by domestic residents and

the purchases of domestic assets by foreign residents

net exports

the difference between the value of goods

and services sold to foreigners and the value of goods

and services purchased from foreigners

neutrality of money

the proposition that in the long

run, changes in the quantity of money affect the price

level but do not affect any real quantities

nominal gdp

the production of goods and services

valued at current prices

normal good

a good or service for which demand is

positively related to the buyer’s income

normative economics

economic analysis used to guide

decisions about what should be as opposed to what is

the case

okun’s law

a relationship identified by Arthur Okun

between the output gap and the level of cyclical

unemployment

oligopoly

a market in which there are just a few

producers

open market operations

the buying and

selling of government securities through primary

dealers by a central bank in order to influence the

money supply; this is the primary tool of monetary

policy under a limited reserve system. Under an

ample reserve system, OMOs are only used when

the Fed needs to add reserves to ensure they remain

ample.

opportunity cost

the cost of any choice is what must

be given up by making that choice

output gap

the difference between actual output and

potential output