24ECA001 - Topic 1, Money and Banking

Page 1: Introduction to Macroeconomics

• Course Information: 24ECA001 - Principles of Macroeconomics, Semester 2

• Topic Focus: Money and Banking

Page 2: Broad Question

• Macroeconomics Study:

  • Examines overall economic factors and trends.

  • Utilize data to reflect on macroeconomic inquiries.

• Reference Graphs:

  • GDP metrics from World Bank (links provided).

Page 3: Semester Overview

• Topics Covered:

  • Money and Banking: Determination of money supply and roles of central banks and commercial banks.

  • IS-LM model: Analysis of equilibrium in goods and money markets; impact of monetary policy.

  • AD-AS Model: Understanding aggregate demand and supply along with inflation.

  • External Sector: Discussion of exchange rates, current account deficits, and international capital flows.

  • Trade and Globalization: Brief exploration of these concepts.

Page 4: Consultation Hours

• Office Hours:

  • Friday, 3 - 5 PM, Office BE 1.66.

• Encouragement: Students are encouraged to attend.

Page 5: References for Lectures

• Main Reference: "Economics (12th Edition)" by David Begg et al., Chapter 21.

• Additional Reference: "Economics" by Lipsey and Chrystal, 13th edition, Chapter 18.

• Supplementary: Videos related to the topic available.

Page 6: Money Definition and Role

• What is Money?: Medium of exchange widely accepted for goods and services.

• Barter Economy Issues: Requires double coincidence of wants; illustrates the advancement with the introduction of money.

• Historical Examples: Use of cigarettes in POW camps; gold and silver coins.

• Production Considerations: Use of a commodity as money limits its use elsewhere and requires resources for production.

Page 7: Characteristics of Money

• Token Money: E.g., a 20 GBP bill’s value surpasses production costs, necessitating restriction on supply rights.

• Roles of Money:

  • Unit of account

  • Store of value

  • Standard of deferred payment (measure over time for loans).

Page 8: Legal Tender

• Definition of Legal Tender: Must be accepted by law as payment (e.g., cash, bank cheques, debit cards).

• Video Resource: Additional learning on the nature of money.

Page 9: Banks as Financial Intermediaries

• Function of Banks: Connect depositors with borrowers.

  • Role of banks in lending deposits.

• Asset and Liability Overview:

  • Assets: Loans to businesses/households, government securities.

  • Liabilities: Deposits from customers.

Page 10: Deposits and Liabilities

• Types of Deposits: Sight deposits (checking accounts) and time deposits (savings accounts).

• Bank Profit Model: Difference between interest paid to depositors and charged to borrowers (spread).

• Other Financial Intermediaries: Include insurance companies and pension funds, but banks uniquely use liabilities as means of payment.

Page 11: Money Creation Process

• Money Creation Table: Demonstrates assets and liabilities at various stages (initial, intermediate, final).

Page 12: Reserve Ratio Concept

• Reserve Ratio: Percentage of deposits not lent out (e.g., hypothetical 10%).

• Wealth Example: 1000 GBP deposited; banks utilize part for loans.

Page 13: Continued Money Creation

• Fractional Reserve Banking: Banks create more money through lending than what they hold in reserves.

• Example Process: Initial deposits enable further loans, leading to increased deposit total.

Page 14: Impact of Reserve Management

• Reserve Management: Influence over money supply via reserves maintained or exceeded.

• Money Multiplier Concept: Ratio of total money generated to reserves held.

Page 15: Money Supply Overview

• Components of Money Supply: Cash and deposits at banks; monetary base held in reserves or circulation.

• Central Bank Influence: Mechanisms to adjust monetary base without direct cash distribution.

Page 16: UK Money Statistics (June 2018)

• Broad Money (M4) Calculation: Total cash and retail/wholesale deposits (e.g., 2377 billion GBP).

Page 17: Money Definitions

• Definitions of Money Measures:

  • Monetary base

  • M1, M2, M3 measures based on deposits and cash.

Page 18: Role of Central Bank

• Monetary Base Control: Central banks manage base, impacting broader measures (M1, M2), influenced by banking behavior.

• Post-2008 Trends: Decline in money multiplier due to reduced lending and borrowing appetite.

Page 19: Historical Trends Graph

• FRED Graph: Demonstrates M2 and monetary base trends over time, highlighting lending behaviors.

Page 20: Money Multiplier Analysis

• Historic Trends: Observations on M1 multiplier behaviors post-2000s.

Page 21: Central Banks' Role

• Central Bank Functions: Management of monetary policy pivotal to economic stability.

• History: Greater government control over central banks from 20th century onwards.

Page 22: Eurosystem Balance Sheet

• Balance Sheet Overview: Assets and liabilities of the Eurosystem detailing reserves and loans.

Page 23: Monetary Control Methods

• Reserve Ratio Adjustment: How central banks manage cash reserves within the banking system.

Page 24: Open Market Operations (OMOs)

• OMOs Explained: Direct impact on money supply through bond transactions.

Page 25: Educational Reference Video

• Video on Interest Rate Control: Central banks' strategies via OMOs.

Page 26: Risks in Banking

• Distinction in Bank Risks: Liquidity vs. insolvency risk impacts on depositors; potential bank runs.

Page 27: Need for Regulation

• Regulatory Necessities: Managing risks associated with bank behavior and systemic stability.

Page 28: Bonds and Interest Rates

• Bond Functionality: Relationship between bond prices and interest rates.

• Market Equations: Illustration of price changes due to interest rate variations.

Page 29: Key Concepts Recap

• Major Discussion Points:

  • Definition and functions of money.

  • Mechanisms of commercial banks in money creation.

  • Role of the money multiplier and central bank control.

  • Necessity of deposit insurance.

  • Inverse relationship between bond prices and interest rates.