money and banking Flashcards
(14 cards)
What are the primary functions of money?
- Medium of exchange
- Unit of account
- Store of value
- Standard of deferred payment
What is fractional reserve banking?
Banks lend out most of their deposits, keeping only a fraction in reserves. This process helps create more money in the economy.
What is the money multiplier formula?
Money multiplier = 1 ÷ Reserve Ratio
How does the central bank control money supply?
- Open market operations (buying/selling bonds)
- Adjusting reserve ratio
- Changing discount rate
What is deposit insurance?
A system that protects deposits in case a bank fails, preventing bank runs and maintaining financial stability
Why are bond prices and interest rates inversely related?
When interest rates rise, bond prices fall, and vice versa, because investors seek better returns elsewhere.
How do banks make money
Banks profit from the spread between interest rates paid to depositors and charged to borrowers
What are sight and time deposits
-Sight deposits: Money accessible immediately (e.g., checking accounts).
- Time deposits: Savings accounts requiring a withdrawal notice
What is fractional reserve banking
A system where banks lend most of their deposits, keeping only a fraction as reserves
What is the reserve ratio, and how does it affect money creation
The percentage of deposits that banks must keep as reserves. A lower ratio increases money supply, while a higher ratio restricts lending
What is the monetary base
The total amount of narrow money (cash and central bank reserves). Controlled by the central bank
What is the role of open market operations (OMO)
OMO involves the buying or selling of government bonds by the central bank to control the money supply
How does deposit insurance prevent bank runs
It guarantees that deposits up to a certain limit are protected, reducing the risk of panic withdrawals
What is the relationship between bond prices and interest rates
They are inversely related—when interest rates rise, bond prices fall, and vice versa
