EC 111 Chapter 16 Lecture Notes
EC 111 Chapter 16 Lecture Notes EC 111
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This 2 page Class Notes was uploaded by Conner Jones on Wednesday March 23, 2016. The Class Notes belongs to EC 111 at University of Alabama - Tuscaloosa taught by Zirlott in Spring 2015. Since its upload, it has received 23 views. For similar materials see Principles of Macroeconomics in Economcs at University of Alabama - Tuscaloosa.
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Date Created: 03/23/16
EC 111 Lecture Notes Unit 3 Chapter 16 What is money? Set of assets people use to buy goods/services from people Without money, we would barter (exchange good for good) Key Terms: o Medium of exchange – an item buyers give to sellers when they want to purchase goods o Unit of account – yardstick people use to post prices and record debts o Store of value – an item people can use to transfer purchasing power from present to the future Two kinds of money: o Commodity money – has uses besides being money (gold, diamonds) o Fiat money – just money because government says so (US dollar) Money supply (money stock) – amount of money in the economy o Includes: currency (paper bills, coins) and demand deposit (checking account) Measure of money supply o M1 – currency, demand deposits, and other checkable deposits o M2 – everything in M1 plus savings deposits, money market funds, and small time deposit (certificate of deposit under $100,000 o M3 – M1 and M2 plus large time deposits (certificate of deposit over $100,000), repurchase agreements Banks and monetary policy o Central banks – an institution that oversees the banking system and regulates the money supply o Monetary policy – the setting of the money supply by policymakers in the central bank o Federal reserve – the central bank of the US (created in 1913 after bank failures in 1907, Panic of 1907) Made up of 7 members Made up of 12 fed reserve banks, closest one in Atlanta Fed is the bank of the banks Controls money supply by setting monetary policy o Federal Open Market Committee (FOMC) – 12 members, meet every 6 weeks in Washington DC, discuss economy and monetary policy Bank reserves o Fractional reserve banking system – banks keep a fraction of deposits as reserves and uses the rest to make loans o Reserve ratio – fraction of deposits banks must hold in reserves o T Account – shows a simplified accounting statement that shows a bank’s assets and liabilities Money multiplier – the amount of money the banking system generates with each dollar of reserves (1/R) You deposit $50 into checking account and reserve requirement is 20%, o Max amount money supply could increase? (1/0.2=5 5x50 = $250-$50 = $200) o Minimum amount it could increase? ($0 if bank makes no loans) Fed’s 3 tools of monetary control 1. Open market operations (OMO’s) – the purchase and sale of US government bonds by the fed a. To increase money supply fed buys government bonds b. To decrease money supply fed sells government bonds 2. Reserve requirement (RR) – amount of money banks are required to keep in reserves and not loan out a. To increase money supply fed decreases the reserve requirement b. To decrease money supply fed increases the reserve requirement 3. The discount rate (DR) – the interest rate on loans the fed makes to banks a. To increase money supply fed decreases discount rate (encourages banks to borrow more reserves from fed) b. To decrease money supply fed increases discount rate (discourages banks from borrowing more reserves from fed) Problems controlling the money supply If households hold more of their money as currency and not deposits: banks have fewer reserves, make fewer loans, MS falls If banks hold more reserves than required: make fewer loans, money multiplier decreases, MS falls Other terms: Federal funds rate – interest rate that banks charge another bank bank run – when people get scared, suspect their bank is in trouble, and withdraw all of their funds leverage – use of borrowed money to supplement existing funds for purposes of investment leverage ratio – (reserves + loans + securities) / Capital capital requirement – government regulation specifying a minimum amount of bank capital