ECO 105 Goel Week 12 Notes: 11/2-11/6
ECO 105 Goel Week 12 Notes: 11/2-11/6 ECO 105
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This 3 page Class Notes was uploaded by Daniel Hemenway on Friday November 6, 2015. The Class Notes belongs to ECO 105 at Illinois State University taught by Rajeev Goel in Fall 2015. Since its upload, it has received 14 views. For similar materials see Principles Economics in Economcs at Illinois State University.
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Date Created: 11/06/15
ECO 105 Goel 112116 Cp3032 Money Demand Motives for holding money Transactions Demand Precautionary Demand Speculative Demand Liquidity Preference LP shows the demand for money as the nominal interest rate changes ceteris paribus Determining Equilibrium interest rate The nominal interest rate is the opportunity cost of holding money Nominal Interest Rate Real Interest Rate Inflation Rate Money demand is inversely related with nominal interest rate The Quantity Theory 2 versions Value of money depends on the quantity not the quality of material of which the money is made of Value of money quotvaluable means low prices 1P Equation of Exchange MV PQ M Money Supply M1 M2 V Velocity of circulation how many times dollar bill changes hands P P level CPI GDP Deflator Q RGDP Money and Prices The Classical Theory The classical theory assumes that V is fixed If A M increases while Q stays the same M and P grow at the same rate If B M and Q both increase the rate of inflation equals the growth rate of M minus the growth rate of Q The Banking System Commercial Banks Backs that have been chartered either by a state agency or by the US Treasury s Comptroller of currency to make loans and receive deposhs Balance Sheet Summarizes the current financial position of a firm by comparing the firm s assets and liabilities Assets Anything of value that is owned Liabilities Anything owed to other economic agents Net Worth Assets Liabilities ECO 105 Goel 112116 Reserves Are the funds that the bank uses to satisfy cash demands of its customers Federal Reserve System Functions of the FED Federal Reserve 1 Controls the nation s money supply 2 Responsible for the orderly working of the nation s banking system Supervises private banks serves as bankers bank clears checks fills currency needs of private banks and acts as a lender of last resort to banks needing to borrow reserves Reserve Requirements Rules that state the amount of reserves that a bank must keep on hand to back bank deposits Question Why bankers would maintain reserves even without required reserve ratios Banks learn by experience how much money they need to keep on hand No bank wants to be caught without money on hand to cover a withdrawal Borrowing from the FED Discount Rate The rate of interest the FED charges banks at the discount window Purchases by the FED 1 Raise the reserves at the FED 2 Increase Vault cash 3 Increase currency in circulation Sales by the FED 1 reduce reserves at the FED 2 Reduce vault cash 3 Reduce currency in circulation Monetary Base Sum of reserves on deposits at the FED all vault cash and the currency in circulation Smaller than the Money supply How commercial Banks create money Excess Reserves Reserves in excess of required reserves Total Revenues Required Reserves Banks can create money when Demand deposits are used as money Banks make loans out of excess reserves ECO 105 Goel 112116 Multiple Expansion of Bank Deposits Multiple Expansion Deposits of money supply occurs when an increase in reserves causes an expansion of the money supply that is greater than the serve increase One bank can lend out only its excess reserves However the banking system as a whole can lend out a multiple of excess reserves Real world expansion of money supply is limited due to cash leakages and excess reserves
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