Chapter 4- Monetary System Flashcards
Define monetary policy
Policy made by the central bank about that nation’s:
- system of money
- banking
- currency
Define money
Stock of assets that can be readily used to make transactions.
What are the functions of money?
- Store of value: used to transfer purchasing power from the present to the future. BUT it is not perfect because if prices rise, the amount you can buy with money you hold decreases
- Unit of account: it provides the terms which prices are quoted and debts are recorded
- Medium of exchange: we use it to buy goods and services.
Define asset liquidity
The level of ease which an asset can be converted into the medium of exchange and used to buy other things.
Define fiat money
Money that has NO intrinsic value. It is established as money by government decree or fist.
Define commodity money
Using commodity (like gold) that had some intrinsic value.
Define gold standard
Economy that uses gold as money.
Why everyone values money?
Because they expect others to value it
Define money supply
Quantity of money available in an economy
Define monetary policy
Government control over the money supply
Define open market operations
Purchases and sale of government bonds by the central bank in which it controls money supply.
How the central bank increases money supply?
It uses some of the dollars it has to buy government bonds from the public.
How the central bank decreases money supply?
It sells some government bonds from its own portfolio.
How money is measured?
Money is the stock of assets for transactions, then its quantity = quantity of those assets
What are the most used assets used for transactions? Define them and who holds them?
Currency: sum of outstanding paper money and coins. It is in the hands of the public.
Demand deposits: funds people hold in bank ready to withdraw. It is in the hands of the banks.
Define reserves? What is the name of banking which focus solely on reserves?
Does it have effect on the money supply?
The deposits banks received but didn’t lent out.
100-percent-reserve banking
No it does not
Define balance sheet
Accounting statement of assets and liabilities
What we call the banking method in which bank does not store all of its reserves?
How does it effect the economy?
Fractional-reserve banking in which the banks keeps only a fraction of its deposits in reserve.
When the banks lends people, it increases the money supply.
What we call the process of transferring funds from savers to borrowers?
Financial intermediation
Define bank capital
How bank funds are used?
A capital required to open a bank.
- Reserve
- Loans
- Buying securities
Define leverage, leverage ratio
Leverage: use of borrowed money to supplement existing funds for purposes of investment
Leverage ratio: bank assets / bank capital
When a bank becomes insolvent?
Bank assets < liabilities
Bank capital = 0
What interactions affect money supply?
Central bank decision about how many dollars to create
Households decision about whether to hold their money in currency / demand deposits
Bank decision about whether to hold deposits as reserves / lend them out
What 3 exogenous variable the model of money supply has?
Monetary base: controlled by central bank and it is the total number of dollars held by the public as currency, and by the banks as reserve.
Reserve-deposit ratio: the fraction of deposits that banks hold in reserve.
Currency-deposit ratio: the amount of currency people hold as fraction of their holdings of demand deposits.
