Brainscape's Knowledge GenomeTM


Top Flashcards (Certified)
All Flashcards

Economics - Chapter 8 > Chapter 12 > Flashcards

Chapter 12 Flashcards

1
Q

What are the 6 characteristics of money?

A

Acceptable
Durable
Divisible
Portable
Scarce
Difficult to forge

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
2
Q

What are the 4 functions of money?

A

Medium of exchange
Store of value
Unit of account
Standard of deferred payment

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
3
Q

Define narrow money

A

The notes and coins in circulation + balances held at a central bank (very liquid). Are immediately accessible

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
4
Q

Define broad money

A

The things making up narrow money + assets that are less liquid. Not always immediately accessible. Important measure of economic activity i.e. shows willingness of households to borrow and spend money

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
5
Q

What are the 3 financial markets?

A

The money market
The capital market
The foreign exchange market

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
6
Q

Explain the money market

A

Provides short term finance to banks, companies, govs and individuals
Deals with very short term loans.
Short term debt has a maturity of up to a year
Covers interbank lending and treasury bills

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
7
Q

Explain the capital market

A

Deals with medium-to-long term lending to firms and govs.
Firms can raise finance by issuing bonds, shares or by borrowing from banks.
Capital market is split into:
- Primary market (for issue of new securities i.e. bonds and shares)
- Secondary market (trade in already issued bonds and shares i.e. stock markets)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
8
Q

Explain the foreign exchange market

A

Where different currencies are bought and sold
Is done to allow international trade and investment or as speculation (make profit from fluctuations in currency prices)
Market can be split into 2:
- Spot Market = immediate conversion between currencies
- Forward Market = agreement to buy foreign currency at a specified later date

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
9
Q

What is the spectrum of liquidity, from most to least?

A

Notes and coins = approx. 2% of the UK money supply
Bank current accounts = Accessible through cash machines, cheques, debit cards etc
Bank savings accounts = Usually instant access but access may be limited
Building society accounts = Similar to banks but used more often for savings
Other financial assets = Shares, bonds, bills, which can be converted into cash but not necessarily at face value

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
10
Q

Define the term money supply

A

The value of the stock of money in an economy

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
11
Q

Define the term treasury bills

A

Short-term debt borrowed by govs, usually repaid within 3 months

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
12
Q

What do financial markets do?

A

Move money from people with a surplus (savers) to those with a shortage (borrowers)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
13
Q

What do financial markets enable?

A

Individuals and firms to borrow
Gov to finance budget deficits
International trade to occur

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
14
Q

What are the features of equity?

A

Is the share capital issued by firms.
Shares are sold to investors (shareholders) wishing to ‘own’ part of the business. Shares can be traded
Investors buy shares to make capital gains and to receive dividends
Shareholders can vote at business meetings
Share prices rise and fall depending on investors’ views on firm’s future performance (in terms of profits)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
15
Q

Define the term equity (in the financial sense)

A

Equity finance is raised by selling shares in a company. The person buying the shares becomes a shareholder and the shareholder gains profits in the form of dividends.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
16
Q

Define the term bonds

A

Debt issued by firms and govs that pays a fixed rate of interest and matures at a set date

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
17
Q

What are the features of bonds (debt)?

A

Bonds are issued by firms and govs wishing to borrow
Bonds pay a fixed rate of interest (the coupon) and have a fixed date of repayment (the maturity date)
Have a lifespan of typically 10 years
Gov bonds are also called gilts
Business bonds are also called debentures

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
18
Q

What are corporate (business) bonds?

A

Debt security issued by a company and sold to people who lend long term to the company. They can be resold second hand on the stock exchange

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
19
Q

What are gov bonds?

A

Debt security issued by gov and sold to people who lend long term to the gov. They can be resold second hand on the stock exchange

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
20
Q

What is the relationship between market interest rates and bond prices?

A

Bonds are traded in the (secondary) capital market.
Bond prices are closely connected with the level of current (market) interest rates
An inverse relationship exists between bond prices and current market interest rates

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
21
Q

What is bond yield?

A

The interest paid on the bond ( this process is called the coupon), as a percentage of the current price of the bond.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
22
Q

How do you calculate bond yield?

A

Coupon/ Market price x 100

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
23
Q

Define the term commercial bank

A

A bank that accepts deposits for the public and lends money to those wishing to borrow

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
24
Q

Define the term investment bank

A

A bank that provides financial services for firms and govs but doesn’t accept deposits from the public

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
25
Explain the 2 features of a commercial bank
Used by public who open accounts with these. Will lend to public as loans, overdrafts and mortgages
26
Explain the functions of commercial banks
They move money from those with surpluses to those with shortages by: 1. Accepting deposits from customers wishing to save 2. Lending to individuals and businesses wishing to borrow 3. Providing an efficient means of payments
27
What makes up the balance sheets of commercial banks?
Assets and Liabilities
28
Explain assets in terms of the balance sheets of commercial banks
Notes and coins Balances are held at the Bank of England Money at call/short notice - held for short periods of time (i.e. overnight) Bills (commercial and Treasury) - short term debts issued by businesses/govs Investments - shares and bonds issued by other companies/govs Advances - amounts lent to businesses and individuals Tangible non-current assets - physical assets of the bank (i.e. bank premises)
29
Explain liabilities in terms of the balance sheets of commercial banks
Share capital - finance raised to start up or to expand Reserves - profits reinvested into the bank Long-term borrowings - bonds issued by the bank to raise finance Short-term borrowings - amounts borrowed on the money markets to provide liquidity when the ban is short of money Deposits - amounts placed in the bank by customers
30
What are the objectives of commercial banks?
Banks aim to maximise profits to satisfy shareholders Key objectives are divided into 3 areas - 1. Liquidity = Ensuring sufficient quantities of notes and coins to meet demand of customers 2. Profitability = Earning profits from lending money at a rate of interest 3. Security = Managing the risk of lending money out to minimise the chances of debts not being collected
31
How are liquidity and profitability conflicting aims?
Holding notes and coins improves liquidity Holding notes and coins is not a profitable activity Lending money generates profits, but reduces liquidity
32
Explain credit creation
Bank customers are unlikely to withdraw all the money. Banks only need to hold a small amount of money deposited in liquid form (fractional banking) Banks can create credit by lending money to customers wishing to borrow. Money lent out to customers is then redistributed in the banking system and then lent out again. Credit creation is only limited by the amount banks wish to hold in liquid form.
33
Explain the central banks and monetary policy
Central banks manage monetary policy for a country. The UK's central bank is the Bank of England. It's main functions are: - to maintain financial stability - to assist the gov in maintaining macroeconomic stability
34
Explain financial stability
The Bank of England ensures financial stability by acting as a 'lender of last resort' - providing money for short-term needs to the banking sector if needed. This helps ensure the banking system doesn't run out of money and fail = became very important in the 2008 financial crisis
35
Define the term central bank
A bank responsible for a currency and managing monetary policy in an economy
36
Define monetary policy
Managing the price of money and the money supply for an economy
37
Define the term bank rate
The interest rate set by the Bank of England which influences all other interest rates in the economy
38
Explain macroeconomic stability
Main feature of the monetary policy is the setting of interest rates (the Bank rate) Other aspects of monetary policy include: Size of money supply Availability of credit Exchange rate The bank of England sets interest rates independently of UK gov influence.
39
What are the objectives of monetary policy?
Inflation target (measured by changes in CPI) of 2% per year (+- 1%) Achieving the inflation target through changes in the bank rate, decided by the Monetary Policy Committee (MPC) Full employment and steady economic growth
40
What is the Monetary Policy Committee?
The MPC consists of the Bank of England employees and outside experts
41
What are the factors affecting future inflation, that the MPC considers when setting interest rates?
Consumer spending/confidence Business investment/confidence Fiscal stance (i.e. current tax rates and gov spending) Exchange rate Commodity prices House prices Labour market and wage rates NOTE: The MPC decide if interest rates need to change.
42
How long is the time lag between interest rate changes and changes in inflation?
Up to 2 years
43
What are interest rate decisions based on?
Expected increases in inflation mean interest rate rises are more likely. Expected falls in inflation (or deflation) mean interest rate reductions are more likely) Interest rate changes significantly affect AD (and have minor effects on AS)
44
Explain interest rates and the exchange rate
Changes in interest rates can affect the exchange rate: Higher interest rates attract speculative flows of hot money Increased demand increases the currency's value (and vice versa) The link depends on expectation; if interest rate changes are expected, then the exchange rate may not change when the interest rate changes.
45
Define the term hot money
As people buy more pounds to save in British banks, raising its value.
46
Define the transmission mechanism
The process of how a change in policy affects macroeconomic indicators and variables in the economy
47
What affects does a rise in the Bank rate have?
Interest rates charged by banks and other lenders will rise, which has the following effects on AD; - Consumers are more likely to save, and less likely to borrow and spend - Households with mortgages are repaying more each month - Business investment falls as the profitability of borrowing money to expand/invest will fall, given the higher cost of borrowing - Asset prices are affected (bond prices will fall and this may also lead to falling share prices), which has a negative wealth effect on consumption - The exchange rate will often rise, which leads to a fall in export volumes - A rise in the exchange rate also leads to lower import prices, which increases imports = all these effects will mean that AD falls
48
How does increasing interest rates also affect other economic objectives?
Lower economic growth (due to lower AD) Higher unemployment (due to lower AD) Improved current account balance (due to lower AD and less spent on imports) Higher budget deficit (due to lower tax revenue and higher welfare expenditure)
49
What are the limitations of using interest rates?
Time lags (up to 2 years for full effect of change) Uncertainty over size of their impact Difficult to use if interest rates already at low levels Size of changes in interest rates may be difficult to decide Conflict with other objectives
50
Define the term quantative easing
Increasing liquid funds available for banks so that they are more willing to lend to businesses
51
Define the term forward guidance
Announcing the conditions for when policy is likely to change in the future
52
What happens to the interest rate when it changes?
It affects the size of the money supply and the amount of credit in the economy
53
Explain Quantative easing (QE) in relation to how the Bank of England can affect the money supply
Bank of England creates new money to buy bonds from financial institutions. This money can be lent out to create credit and increase AD. QE was introduced in the UK in 2009, when banks were reluctant to lend even with v.low interest rates
54
Explain FLS (Funding for lending scheme) in relation to how the Bank of England can affect the money supply
Banks and lenders can swap assets (i.e. loans made) for Treasury bills - which are very liquid assets Treasury bills enable the banks and lenders to borrow money from other money markets at very low interest rates This encourages banks and lenders to borrow more and lend out more in order to increase their profits
55
Explain Forward Guidance in relation to how the Bank of England can affect the money supply
Bank of England announces when policy changes are likely to occur, i.e. the likely data and size of future interest rate changes. Used less due to the UK economy behaving less predictably than expected (unemployment fell far sooner and lower than most economists expected) Forward guidance allows households and businesses to plan with greater confidence knowing when interest rates are likely to rise.
56
What is the UK financial regulation for?
Until 2008 financial crisis, regulation of the financial system was limited. Limited regulation was blamed for magnifying the financial crisis. The 2012 Financial Services Act introduced regulatory instructions designed to improve financial stability.
57
Explain the 3 parts of the 2012 Financial Services Act
PRA (Prudential Regulation Authority) FCA (Financial Conduct Authority) FPC (Financial Policy Committee)
58
Explain the PRA
The Prudential Regulation Authority is responsible for supervision of banks and other financial institutions. Takes actions to ensure these are managed properly and can make recommendations of actions Allows banks to fail if it doesn't disrupt whole financial system
59
Explain the FCA
The Financial Conduct Authority (FCA) Protects consumers by ensuring healthy competition between banks Can intervene and set standards of behaviour if it feels institutions are not acting appropriately. Independent of the gov
60
Explain the FPC
The Financial Policy Committee Monitors, identifies and takes action to remove systematic risk from financial system. Stress tests are conducted to see how 'healthy' banking sector is. Concerned with macroprudential regulation, whereas PRA and FCA are concerned with macroprudential regulation
61
Why do banks fail and moral hazard?
Banks will face cash shortages if those it lends to fail to repay (by defaulting). If customers think the bank is short of cash, then a 'run' on the bank may occur. Runs on banks become self-fulfilling - the fear of banks running out of cash encourages more to withdraw their cash. The central bank can provide liquidity if the failure of a bank is against the public interest. Knowing a bank can be 'bailed out' creates a moral hazard and banks take too many risks, knowing they will not be allowed to fail. The 2012 Financial Services Act was designed to deal with the issue of moral hazard in the banking sector.
62
Explain liquidity ratios
Limit bank lending by requiring banks to hold a percentage of their deposits in liquid form (i.e. as cash or as balances held at the Bank of England). Increases in the liquidity ratio mean a bank can lend less - and cannot create as much credit. Should ensure banks have sufficient liquidity in case of a shortage
63
Explain capital ratios
Place a limit on bank lending to a percentage of the bank's capital or equity issued. Should limit lending by banks compared with bank's own permanent capital. In 2019, a capital ratio (also known as the liquidity coverage ratio) will be introduced for UK banks - capital must be equal to no less than 7% of their own lending
64
Explain systematic risk
Financial crises often affect the whole banking sector (or spread from one bank to others) After a crisis, banks often become unwilling to lend Reduced bank lending has negative effects on the whole macroeconomy Tighter regulation should reduce the chances of another crisis
65
Define the term moral hazard
When an institution takes on too much risk due to not bearing the full costs of the risky behaviour
66
Define liquidity ratios
Limiting how much lending a bank can make to a percentage of its deposits
67
Define capital ratios
Limiting how much lending a bank can make to a percentage of its capital issued
68
Define systematic risk
Risks that affect the whole banking system
69
What are the issues with regulation in banks?
Tighter controls restrict people/businesses from borrowing Regulation may divert financial activities that contribute to GDP in other countries Regulation requires time and money to plan, implement and monitor Penalties are needed to deter excessive risk-taking Unintended consequences likely

Economics - Chapter 8 (10 decks)

Brainscape helps you reach your goals faster, through stronger study habits.
© 2025 Bold Learning Solutions. Terms and Conditions