The Monetary System Key Terms

Question 1

Money

Answer 1

The set of assets in an economy that people regularly use to buy goods and services from other people.

Question 2

What are the three functions of money?

Answer 2

A medium of exchange, a unit of account, a store value

Question 3

Medium of exchange

Answer 3

an item that buyers give to sellers when they want to purchase goods and services.

Question 4

Unit of account

Answer 4

The yardstick people use to post prices and record debts.

Question 5

Store of value

Answer 5

an item that people can use to transfer purchasing power from the present to the future.

Question 6

What distinguishes money from other assets in the economy (stocks, bonds, art, real estate?

Answer 6

It’s three functions (medium of exchange, store of value, unit of account).

Question 7

Liquidity

Answer 7

The ease with which an asset can be converted into the economy’s medium of exchange.

Question 8

Commodity Money

Answer 8

Money that takes the form of a commodity with intrinsic value.

Question 9

Fiat Money

Answer 9

Money without intrinsic value that is used as money because of government decree.

Question 10

Money stock

Answer 10

The quantity of money circulating the economy

Question 11

currency

Answer 11

the paper bills and coins in the hands of the public.

Question 12

Demand Deposits

Answer 12

Balances in bank accounts that depositors can access on demand by writing a check.

Question 13

Why aren’t credit cards money?

Answer 13

Because credit cards are not a method of payment, but a method of deferring payment.

Question 14

Federal Reserve System

Answer 14

The central bank of the United States

Question 15

The Fed is an example of a

Answer 15

central bank

Question 16

Central bank

Answer 16

an institution designed to oversee the banking system and to regulate the quantity of money in the economy.

Question 17

The Fed is run by its

Answer 17

board of governors

Question 18

How many people are on the board of governors?

Answer 18

Seven members who are appointed by the president and confirmed by the Senate.

Question 19

How long are the governors’ terms?

Answer 19

14 years

Question 20

Why are Fed governors given just long terms?

Answer 20

to give them independence from short-term political pressures when they formulate monetary policy.

Question 21

What is the most important position in the board of governors and what does that person do?

Answer 21

The chairman. This person directs the Fed staff, presides over board meeting and testifies regularly about Fed policy in front of congressional committees. The president appoints the chairman to a four-year term.

Question 22

The Federal Reserve system is made up of

Answer 22

The Federal Reserve Board in Washington D.C and 12 regional Federal Reserve Banks located in major cities around the country.

Question 23

Who chooses the presidents of the regional Federal Reserve Banks?

Answer 23

The bank’s board of directors

Question 24

What two jobs does the Fed have?

Answer 24

1. Regulate banks and ensure the health of the banking system
2. Control the quantity of money that is made available to the economy (called the money supply).

Question 25

How do the regional Federal Reserve Banks regulate other banks and ensure the health of the banking system?

Answer 25

the Fed monitors each bank's financial financial condition and ficilitates banks transactions by clearing checks. Also by acting as a banks's bank (the Fed makes loans to banks when banks themselves want to borrow).

Question 26

When financially troubled banks find themselves short of cash the Fed acts as a

Answer 26

Lender of last resort (a lender to those who cannot borrow from anywhere else)

Question 27

Money supply

Answer 27

is quantity of money that has been created by the government and private banks. It is how much money there is.

Question 28

Monetary policy

Answer 28

The setting of the money supply by the policy makers in the central bank.

Question 29

Who makes up the Federal Open Market Committee?

Answer 29

The seven members of the board of governors and five of the regional bank presidents.

Question 30

The Fed has the power to increase or decrease the number of dollars in an economy through

Answer 30

the decisions of the FOMC

Question 31

Reserves

Answer 31

Deposits that have been received, but have not been loaned out.

Question 32

If banks hold all deposits in reserves...

Answer 32

banks do not influence the supply of money

Question 33

Fractional-reserve banking

Answer 33

a banking system in which banks hold only a fraction of deposits as reserves.

Question 34

reserve ratio

Answer 34

the fraction of deposits that banks hold as reserves.

Question 35

How is the reserve ratio determined?

Answer 35

By a combination of government regulation and bank policy.

Question 36

Reserve requirements

Answer 36

regulations, set by the Fed , on the minimum amount of reserves that banks must hold against deposits.

Question 37

Excess reserves

Answer 37

The reserves banks hold that are above the legal minimum so they can be more confident that they will not run short of cash.

Question 38

Money multiplier

Answer 38

The amount of money, the banking system generates with each dollar of reserves.

Question 39

The higher the reserve ratio.....

Answer 39

...the less of each deposit banks loan out and the smaller the money multiplier

Question 40

bank capital

Answer 40

the resources a bank's owners have put into an institution

Question 41

leverage

Answer 41

the use of borrowed money to supplement existing funds for purposes of investment.

Question 42

Leverage ratio

Answer 42

The ratio of assets to bank capital.

Question 43

monetary base

Answer 43

is what the government created. It is equal to currency in the hands of the public plus bank deposits at the Federal Reserve

Question 44

money supply =

Answer 44

Monetary Base * Money Multiplier

Question 45

The two ways the Fed controls the monetary base

Answer 45

1. OMO (open market operations) | 2. Discount rate

Question 46

Open Market Operations

Answer 46

The purchase and sale of U.S government bonds by the Fed.

Question 47

Discount rate

Answer 47

the interest rate on the loans that the Fed makes to the banks.

Question 48

The Fed can also increase the quantity of reserves in the economy by lending reserves to banks. Banks borrow from the Fed when they feel...

Answer 48

they do not have enough reserves on hand, either to satisfy bank regulators, meet depositor withdrawals, make new loans, or for some other business reason.

Question 49

What is the federal funds rate?

Answer 49

The federal funds rate is the short term interest rate that banks charge one another for loans. If one bank finds itself short on reserves while another bank has an excess of reserves, the second bank can lend some reserves to the fist. The loans are temporary-typically overnight. The price of the loan is the federal funds rate.

Question 50

Discount rate

Answer 50

the interest rate banks pay to borrow directly from the Federal Reserve through the discount window.