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ECON 2H03 > Chapter 4 - The Monetary System > Flashcards

Chapter 4 - The Monetary System Flashcards

1
Q

Money definition?

A

stock of assets readily used to make transactions (incl. fin assets)

anything generally accepted as payment for G&S or in the settlement of debts and is distinct from income or wealth

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2
Q

Is morny more defined by form or function?

A

Function

has many forms

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3
Q

‘generally accepted’

A

money is a social convention in sense people are willing to acceppt

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4
Q

3 functions of money

A

medium of exchange (key function)
store of value (carry pp over time)
unit of account: common unit by everyone measures price and values

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5
Q

Two types of money and examples

A

Fiat money: no intrinsic value
EX. paper currency used

Commodity money: has intrinsic value
EX. Gold coins, tooniess, cigarettes in war

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6
Q

What is not money

A

cheques, debit cards, credit cards

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7
Q

what is money

A

currency, demand deposits (chequing account), time deposits (certification of deposits, have time restrictions)

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8
Q

Money supply definition?

A

quantity f money available in the eeconomy

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9
Q

What are the two measures of money supply and their equations? Compare them

A
  1. Monetary Base (aka high-powered money)
    M base = C+R
    (currency in circulations and in reserves)
  2. Money supply: how the public pay for transactions
    M supply = C + D
    (current in circulation and bank deposits)

comparison: M base > M Supply
because base has multiplier

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10
Q

M1 define money:

A

M1 currency outside banks (narrow and liquid definition of money supply)
M1 = chartered ba bank chequable deposit - inter bank chequable deposits

M2 Currency outside banks (wider and less liquid due to time restrictions)

Includes:M1 + notice deposits + personal deposits

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11
Q

does M1 to M2 get wider/narrower, or more/less liquid?

A

from 1-2
definition gets wider
less liquid

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12
Q

What three players control money supply?

A

Central bank
Depository institutions: banks/credit union
Public; household/citizens

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13
Q

how is money controlled?

A

monetary policy: controlled by central bank

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14
Q

Whst 2 tools used to control money (monetary policy tools)?

A

Open-market operations and deposit switching

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15
Q

What is oppen market operations?

A

purchase and sales of gov bonds
sell securities to public –> reduce Ms
bank purchased gov securities -> rise Ms

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16
Q

SPRA:

A

cnoducting repo

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17
Q

Deposit swifting?

A

shifting funds from and to the gov account held at the central bank and charter banks
increase supply -> transfer from the central bank to commercial (more reserves)
Decrease supply -> transfer from commercial to chartered (fewer reserves)

18
Q

is open market operations or deposit seitching preferred

A

deposit switching because can do it on own (do not need the bank and customers, can do it internally)

19
Q

What is the traditional role of banks in the monetary system?

A

financial intermediation (b/w lenders and borrowers)

  • Pay less interest to depositors and charge higher interest to borrowers
    banks profit by making deposits -> loans
20
Q

In the bank POV, classify assets vs liabilities

deposits, reserves, outstanding loans

A

Assets: reserves, outstanding loans
Liabilities: deposits

21
Q

What are reserves: what are the two types of banking and their rules.

A

Reserves: portion deposits banks not lend (used to satisfy demand for withdrawals)

Types of reserves:
1. 100% reserve banking: D = R
RULE: no impact on money supply
2. Fractional-reserve banking: R < D
RULE: creates money through loans

22
Q

What is the legally required reserve % in canada

A

0%

23
Q

In no banks scenario, how does M = C+D hold true

A

D=0 since no banks
M = C

24
Q

In 100% reserve banking, what is the result on M=C+D

A

As more deposits made, D increases, C decreases, and M = their sum

TF: no impact on Ms size

25
Q

Fractional reserve banking, what is the result on M=C+D

A

when deposits are made:

Assets increase (reserves, loans)
Liabilities increase (deposits)

TF: creates money supply

26
Q

Equation for total money supply

A

total money supply = OG deposit + sum of each bank’s lending + other lending

Total money supply = 1/rr*initial deposit
where Deposit multiplier = 1/rr
where reserve ratio rr = reserve/deposits

27
Q

What relationship does rr have on money supply

A

rr has a negative relationship with the money supply

high rr –> less in C –> Ms small
lower rr –> more in C –> Ms bigger

28
Q

What are the assumptions held to the deposit multiplier?

A

Deposit multiplier = 1/rr

Assumptions:
1. all banks keep same rr
2. no cash drain (when new loan given, all of it comes back as new deposit)

29
Q

Define bank capital

A

bank capital: resources a bank’s owners have to put into the bank
owner’s equity of the bank

30
Q

Define leverage. are banks high or low leverage

A

leverage: use of borrowed money to supplement existing funds for purpose of investment

banks: highly leveraged, small decline in bank assets have huge impact on bank capital

31
Q

What is the leverage ratio formula? what does it tell you

A

Leverage ratio = assets/capital = assets/OE
where… capital = A - L (ALOE)

For every dollar of owned equity, the bank has assets of __$.

32
Q

In financial crises, what happends to bank

A

bank assets value falls and cannot revocer own equity (leverage)

Banks pay lenders first (owners paid leftover)
Insolvency: liabilities > assets (leads to bank failure)

33
Q

Define capital requirement

A

capital requirement: minimum amount of capital mandated by regulators

34
Q

What are the exogenous (fixed) variables in model of Money supply?

A

Monetary base: controlled by the central bank (B = C+R)
Reserve-deposit ratio: depends on regulations and bank policies (rr=R/D)
Currency-deposit ratio: depends on household preference (cr=C/D)

35
Q

in the model of money supply, what is the equation for Money supply, short and long form?

what is the change equation if there is changes in monetary base?

A

M = m*B
M = (cr+1)/(cr+rr) * B
where… multiplier: m = (cr+1)(cr+rr)

long form:
M = (C/D + 1)/(C/D + R/D) * (C+R)

Change:
changeM = m*changeB

36
Q

The money multiplier define

A

increase in Ms due to 1$ rise in B
if rr<1 –> m>1

37
Q

If households hold more money (as currency) and less deposits,what is the impact?

A

cr increases (cr = C/D) >0
since D falls, C increase -> m falls -> Ms falls

aka. less deposits -> less bank loans -> less money creation

38
Q

Summary: define money, list functions, and list types, controlled by?

A
  1. Definition: stock of assets used for transactions
  2. Functions: Medium of exchange, store value, unit account
  3. Types: commodity (intrinsic value), fiat (no intrinsic value)
  4. Money supply is controlled by the central bank
39
Q

How does fractional reserve banking create money?

A

because each dollar of reserves generates many dollars in demand deposits (which continue to become loans)

40
Q

What three things does money supply depend on?

A

cr = C/D (currency-deposit ratio)
rr = R/D (reserve ratio)
B = C+R (monetary base)

41
Q

The money multiplier define

A

increase in Ms due to 1$ rise in B
if rr<1 –> m>

42
Q

How does the central bank control money supply

A

open-market operations
- increase Ms: bank buys gov securities
- decrease Ms: gov sell securities to public
deposit switching
- increase Ms: transfer Central -> commercial
- decrease Ms: transfer commercial -> central

ECON 2H03 (8 decks)

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