Chapter 12: Money

Learning Objectives

  • Outline the functions of money, its components, and various definitions of money
  • Identify the demand for and supply of money and equilibrium in the money market
  • Explain how money is created and define the money multiplier

Functions of Money

  • Means of Exchange: Overcomes barter needs.
  • Store of Purchasing Power: Retains value over time.
  • Measure of Value: Provides a standard for pricing.

Deposit-Takers

  • Definition: Entities accepting funds from savers and lending to borrowers.
  • Cash Reserves: Maintain reserves for withdrawal demands.

Components of the Money Supply

  • Currency: Physical money in circulation.
  • Demand Deposits: Funds available for withdrawal at any time.
  • Notice Deposits: Funds that require notice for withdrawal.
  • Term Deposits: Funds held for a fixed term.
  • Foreign Currency Deposits: Deposits in different currencies.

Definitions of Money in Canada

  • M1+: Cash + demand deposits.
  • M2: M1+ + non-chequable notice + personal term deposits.
  • M3: M2 + personal term and foreign currency deposits.
  • M2+: M2 + near bank deposits and other liquid assets.

Types of Money Demand

  • Transactions Demand: Money for daily transactions; varies with output/price level.
  • Asset Demand: Money for saving; inversely related to nominal interest rate.

Money Demand Curve

  • Shape: Negatively sloped, indicating inverse relationship with interest rates.
  • A shift occurs with changes in output or price levels.

Money Supply

  • Set Amount: Controlled by government policy- makers.
  • Graph Representation: Shown as a vertical line reflecting fixed amounts.

Equilibrium in the Money Market

  • Occurs at the intersection of money demand and supply curves.
  • Changes in supply lead to shifts in the interest rates corresponding to demand.

Money Creation Process

  • Desired Reserves: Minimum reserves needed for withdrawals.
  • Reserve Ratio: Ratio of reserves to deposits.
  • Excess Reserves: Additional reserves available for lending create new money.

Money Multiplier

  • Definition: The factor by which excess reserves can change the money supply.
  • Calculation: extMoneyMultiplier=1extReserveRatioext{Money Multiplier} = \frac{1}{ ext{Reserve Ratio}}
  • Actual supply change is usually less due to currency and non-monetary deposits.

Chapter Recap

  • Defined money functions, components, and definitions.
  • Identified demand/supply for money and market equilibrium.
  • Explained money creation and the money multiplier.