Money and Banking - Chapter 14

Barter involves trading goods/services directly without using money, necessitating a double coincidence of wants, where both parties must want what the other has.
Money serves as:
- Medium of exchange: A widely accepted payment method that facilitates transactions efficiently.
- Store of value: An asset that preserves economic value over time, allowing it to be used for future consumption or investment.
- Unit of account: A standard numerical monetary unit for measuring the market value of goods, services, and other transactions.
- Standard of deferred payment: An accepted way to settle debts and make future payments, providing a basis for lending and borrowing.
Commodity money has intrinsic value, meaning it has value in itself (e.g., gold can be used for jewelry), while fiat money has value because a government declares it so and people accept it (e.g., paper currency).

The Federal Reserve (the central bank) defines money based on its liquidity, which refers to how easily an asset can be converted into cash.
M1: Includes currency, checking accounts (demand deposits), and traveler’s checks; these are the most liquid forms of money.
M2: Includes M1 plus savings deposits, money market funds, and certificates of deposit (CDs); M2 is less liquid than M1 but still easily accessible.
M1 = coins and currency in circulation + checkable deposits + traveler’s checks.
M2 = M1 + money market funds + certificates of deposit.
Credit cards are short-term loans, not money; debit cards transfer money directly from a bank account, acting as an electronic form of check.

Banks act as financial intermediaries, connecting savers and borrowers, and reducing transaction costs by providing a convenient and efficient way to channel funds.
Banks create a payment system by enabling transactions through checks, electronic transfers, and other means, which lowers transaction costs.
Balance sheet: Assets = Liabilities + Net Worth (Bank Capital).
Banks hold reserves, a percentage of deposits they don't loan out, to meet regulatory requirements and ensure they can cover withdrawals.
Banks can fail due to loan defaults, where borrowers are unable to repay their loans, or asset-liability time mismatch, where short-term liabilities (deposits) are used to fund long-term assets (loans).
Mitigating risk: diversify loans across different borrowers and sectors, sell loans to other institutions, and hold government bonds or reserves.

Banks create money by making loans, which increases the amount of money in circulation.
The money multiplier determines the potential money creation in a multi-bank system: Money Multiplier = {1 / Reserve Requirement}
The actual money creation depends on banks' decisions to hold excess reserves (reserves above the required amount) and public behavior (how much they deposit versus hold as cash).

The money supply is closely linked to lending/credit; when lending increases, the money supply expands, and vice versa.
Banks may hold excess reserves due to macroeconomic conditions (e.g., economic uncertainty) or government rules (e.g., higher capital requirements).
People not depositing cash limits money recirculation as loans; if people hold more cash, banks