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AP Macro Exam > Unit 5 > Flashcards

Unit 5 Flashcards

(66 cards)

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1
Q

Problems with the Barter System

A

-Double Coincidence of wants (each trader must be able to provide something)
-Splitting of Goods (Some goods cannot be split)

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2
Q

Money

A

Anything that is generally accepted as payment for goods and services

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3
Q

Commodity vs. Fiat Money

A

-Commodity Money: Money that has intrinsic value, ex: gold and silver
-Fiat Money: Something that serves as money and has no other value; value comes from government declaring it money. Ex: paper money, coins

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4
Q

3 Functions of Money

A
  1. Medium of Exchange
    -Universally accepted as payment for goods and services
    -Easy to carry and has the same value to everyone who is using it
    -Allows society to avoid issues of barter
  2. Store of Value
    -Stores purchasing power for the future
    -needs to be reliable and trustworthy
    -It’s value must be relatively consistent over time so people can trust their wealth
  3. Unit of Account
    - Provides a common measure of how to value goods + services
    -To be a good unit of account money must be easily divisible
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5
Q

Liquidity

A

The ease at which an asset can be accessed and used as a medium of exchange

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6
Q

M0

A

-M0 = Monetary Base
-Components: currency in circulation (CIC) + bank reserves

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7
Q

M1

A

-M1 = Money Supply
-Components: Cash + Coins (CIC), checking accounts (largest portion of M1) (demand deposits), + Saving (liquid deposits)

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8
Q

M2

A

-M2 = M1 (Money Supply) + “near-moneys”
1. Short Time Deposits (CDs)
2. Money Market Funds

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9
Q

Financial Markets

A

Network of institutions that link savers and borrowers
-The 2 most important financial markets are the stock market and the bond market

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10
Q

Stocks

A

Stocks/equities represent ownership of a firm and a claim to a portion of future profits.
-Stocks tend to offer higher rates of return but carry higher risk

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11
Q

Bonds

A

Loans made to companies or governments that are paid back over time w/ interest
-Bonds tend to offer lower rates of return but carry less risk

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12
Q

A bond issuer/seller is the…

A

BORROWER

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13
Q

A bond owner/buyer is the…

A

LENDER

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14
Q

Face value is the money amount the bond will be worth at…

A

maturity

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15
Q

Coupon Rate is the rate of interest the issuer will pay on the…

A

face value

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16
Q

Relationship between bond prices and interest rates

A

Bond prices and interest rates are inversely related.
-If interest rates increase, the price of previously issued bonds will DECREASE.
-If interest rates decrease, the price of previously issued bonds will INCREASE.

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17
Q

Assets

A

What the bank OWNS

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18
Q

Liabilities

A

What the bank OWES

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19
Q

How does the bank make money itself?

A

It lends out your money, making money through the difference in the interest it charges and pays you.

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20
Q

What is a reserve requirement?

A

The amount of money banks must have to operate.

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21
Q

Why is our banking system called a fractional banking system?

A

The money in our system is continually lent out and fractioned.

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22
Q

Why is a loan considered an asset for the lender? Why is it a liability for the borrower?

A

The bank will receive the interest; the borrower owes the interest.

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23
Q

On Bank Balance Sheets…

A

Total Assets = Total Liability

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24
Q

Bank Run

A

When a large number of depositors rush to withdraw their money at the same time

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25
FDR's Emergency Banking Act (1933)
-Closed the banks and waited until he could provide them relief to pay out some people. -Instituted a higher reserve requirement: banks had to have more reserves on hand at all times to slow and stop a bank run from happening.
26
Why aren't bank reserves part of M1?
Because they cannot be spent now
27
Money Multiplier
1/RR (where RR = reserve requirement)
28
Maximum Change in the Money Supply
Max Change = (Initial Change) x (Money Multiplier)
29
Why could the actual change in the money supply be less than a change predicted using calculations?
-If people are not depositing cash, banks are not depositing excess reserves -If banks are holding excess reserves
30
Must banks hold required reserves for bonds sold to them by the FED?
No. For deposits, banks must hold required reserves, for the FED's bonds, they do not have to.
31
Why is interest earned considered the opportunity cost of demanding money?
Because you are giving up the opportunity to earn interest when you have it in cash.
32
Why do we say interest rates are the price of money?
Because interest is what savers get "paid" and what borrowers "pay."
33
If interest rates increase, what happens to the quantity demanded of money?
The quantity demanded of money will decrease.
34
When NIR increase, the quantity of money demanded decreases:
-Higher return on savings -More expensive to borrow
35
When NIR decrease, the quantity of money demanded increases:
-lower return on savings -less expensive to borrow
36
A change in nominal interest rate will lead to a...
movement along the money demand curve
37
Describe the Money Market graph
NIR vs. Qmoney, graph = Dmoney
38
Shifters of Money Demand
1. Changes in income and wealth -As income increases, MD increases -As income decreases, MD decreases 2. Changes in inflation (price level) -As inflation increases, MD increases -As inflation decreases, MD decreases 3. Changes in technology -As technology (ex: credit cards) improves, MD decreases
39
The Dual Mandate of the Fed
-The Fed has been given a dual mandate of price stability (low inflation) and max employment (low unemployment/high GDP) -To achieve the dual mandate the FED conducts monetary policy, which is using the money supply to stabilize the economy. -The dual mandate is a balancing act because inflation and employment often work in opposite directions
40
The FED directly controls... and indirectly controls...
M0! -M0 is all of the money created by the Central Bank. It consists of CIC and bank reserves -The M1 money supply is a direct function of the size of the monetary base. Therefore, through its control of M0, the FED also controls the M1 money supply
41
What would happen if the Fed increased/decreased the money supply?
If the Fed increases the money supply, NIR decrease. If the Fed decreases the money supply, NIR increase.
42
Monetary Policy
The Central Bank's use of the money supply to stabilize the economy in times of a recession and an inflationary period
43
Old School vs. New School Views on Monetary Policy
-Traditionally monetary policy in the U.S. has operated under a limited reserves framework -Since 2008 monetary policy in the U.S. has operated under an ample reserves framework
44
Limited Reserves
-In a limited reserve framework, banks: hold RR and try to limit their ER. -If banks are unable to meet the RR (on an overnight basis), they can: call in loans, sell assets (think: bonds), borrow from the central bank, or borrow from other commercial banks (most common)
45
Federal Funds Rate Target
-When banks are short on RR they borrow from each other overnight -The FED Funds Rate is the interest rate that banks charge each other for overnight loans -The fed funds rate is a signal for interest rates throughout the entire economy: if the FFR is low, business loan rates and mortgage rates will be low too; if the FFR is high, business loan rates and mortgage rates will be high too -The Federal Reserve uses the FFR as its policy rate
46
Why must the Fed only "target" the FFR?
Because the Fed does not directly set the FFR.
47
If interest rates decrease, interest-sensitive consumption and investment and AD will...
INCREASE!
48
If interest rates increase, interest-sensitive consumption and investment and AD will...
DECREASE!
49
Not all goods are interest-sensitive...
example: pasta!
50
What determines interest rates?
The money supply, controlled by the Fed
51
To increase/decrease AD, the Fed must...
increase/decrease the money supply
52
Reserve requirement
Percentage of deposits a bank has to keep in their required reserves
53
What is the discount rate?
The rate at which the FED will lend to commercial banks for borrowing money if banks cannot find another bank to borrow from -The FED is the lender of last resort when the bank is short on its required reserves!
54
Open Market Operations
-When the FED buys/sells government bonds (securities) to target the FED Funds rate -This is the most important and widely used monetary policy because it allows the Fed to directly increase/decrease the money supply
55
Expansionary/Loose Monetary Policy:
Decrease RR, Decrease DR, Buy Bonds!
56
Contractionary/Tight Monetary Policy:
Increase RR, Increase DR, Sell Bonds!
57
Chain reaction of increasing RR:
RR inc --> ER dec --> MS dec --> IR inc --> C/I dec --> AD dec
58
Chain reaction of increasing DR:
DR inc --> MS dec --> IR inc --> C/I dec --> AD dec
59
Chain reaction of selling bonds:
sell bonds --> ER dec --> MS dec --> IR inc --> C/I dec --> AD dec
60
Why is the demand curve for loanable funds downward sloping?
As the cost of borrowing dec, there will be a higher quantity demanded of loans
61
Why is the supply curve of loanable funds upward sloping?
As the cost of borrowin increases, there will be a higher quantity of supplied loans
62
What is the source of supply in the market for loanable funds?
Savings!! (money in bank)
63
Shifters of Supply
1. Changes in private savings 2. Changes in foreign financial capital inflows (foreign savings brought to U.S.)
64
Shifters of Demand
1. Changes in business/consumer outlook 2. Changes in gov borrowing
65
What does the money market show?
The price and quantity of M1, the most liquid form of cash. -The price, or interest rate, represents the rate on short-term loans (6 months or less). -Banks/businesses might need these for immediate cash needs (to meet RR, etc.)
66
What does the market for loanable funds show?
The price and quantity of long-term loans -The price, or interest rate, is based on the short-term rate and risk premium for extra duration of loan -Businesses primarily use this market to fund long-term investment in capital stock -Businesses will only borrow if the return on their project is greater than the interest

AP Macro Exam (7 decks)

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