WEEK 8

Question 1

money

Answer 1

any asset that can be easily used to produce g+s

Question 2

currency in circulation

Answer 2

cash held by the public

Question 3

checkable bank deposits

Answer 3

bank accounts on which people can write checks

Question 4

money supply

Answer 4

total value of financial assets in the economy that are considered money

Question 5

what can money function as?

Answer 5

• medium of exchange
• store of value
• unit of account

Question 6

medium of exchange

Answer 6

asset that individuals acquire for the purpose of trading rather than for own consumption

Question 7

store of value

Answer 7

• money is a means of holding purchasing power over time
• enables people save money earned today and use it to buy g+s they want tomorrow

Question 8

unit of account

Answer 8

money provides yardstick for measuring and comparing values of a wide variety of g+s

Question 9

commodity money

Answer 9

good used as a medium of exchange that has intrinsic value in other uses

Question 10

commodity-backed money

Answer 10

medium of exchange with no intrinsic value whose ultimate value is guaranteed by a promic that it can be converted into valuable goods

Question 11

fiat money

Answer 11

money whose value derives entirely from its official status as a means of payment

Question 12

monetary aggregate

Answer 12

overall measure of money supply

Question 13

what are the two types of monetary aggregate?

Answer 13

• M1 - only most liquid forms of money (e.g. currency in circulation, checkable bank deposits, traveller’s checks)
• M2 - near moneys + M1 (e.g. money market funds, time deposits, savings deposit

Question 14

near moneys

Answer 14

financial assets that can’t be directly used as a medium of exchange but can be readily converted into cash or checkable bank deposits

Question 15

banks

Answer 15

financial intermediaries that use liquid assets (in the form of bank deposits) to finance illiquid investments of borrowers

Question 16

T-account

Answer 16

tool for analysing a business’s financial position by showing business’s assets and liabilities

Question 17

assets

Answer 17

loans + reserves

Question 18

liabilities

Answer 18

deposits

Question 19

bank reserves

Answer 19

currency that banks hold in their vaults plus their deposits in a central bank

Question 20

reserve ratio

Answer 20

fraction of bank deposits that a bank holds as reserves

Question 21

what is the primary purpose of financial markets and institutions?

Answer 21

• act as bridge between lenders and borrowers
• also able to create money by accepting deposits and making loans

Question 22

fractional reserve bank system

Answer 22

when deposit money in bank account, bank required to hold part of it in its vault as cash

Question 23

bank run

Answer 23

phenomenon in which many of a bank’s depositors try to withdraw their funds because fear bank failure

Question 24

types of bank regulation

Answer 24

1. deposit insurance
2. capital requirements
3. reserve requirements
4. discount window

Question 25

what is the incentive issue with deposit insurance?

Answer 25

banks take more risks because insured

Question 26

* $X deposited into account * What is the effect on the T-account before and after bank makes loan with the money? * What is the effect on the money supply?

Answer 26

* Increase in money supply * If loan out all of left over money, money in circulation is now X + 0.9X * M1 =

Question 27

deposit insurance

Answer 27

insurance deposits up to certain amount

Question 28

capital requirements

Answer 28

requirement that owners of banks hold substantially more assets than value of bank deposits

Question 29

reserve requirements

Answer 29

rules set by a Central Bank that determine minimum reserve ratio for a bank

Question 30

discount window

Answer 30

arrangement in which a Central Bank stands ready to lend money to banks in trouble

Question 31

$X withdrawn from account What is the effect on the T-account before and after bank makes loan with the money?

Question 32

monetary base

Answer 32

sum of currency in circulation and bank reserves

Question 33

what does the money supply depend on?

Answer 33

* ratio of reserves to bank deposits (decrease in reserve ratio leads to increase in money supply) * fraction of money supply that individuals choose to hold as currency

Question 34

money multiplier

Answer 34

ratio of money supply to monetary base

Question 35

what does a bank do if it can't meet a Central Bank's reserve requirement?

Answer 35

London Interbank market allows banks that fall short of reserve requirement to borrow funds from banks with excess reserves

Question 36

Libor rate

Answer 36

measures the cost of funds to large global banks operating in the London financial markets or with London-based counterparts

Question 37

discount rate

Answer 37

* (aka base rate, repo rate) interest rate a bank charges on loans to banks * normally set about federal funds rate to discourage banks from turning to Central Bank

Question 39

how do Central Banks alter money supply?

Answer 39

* change reserve requirements (decrease in reserve requirements increases money supply) * change discount rate (decrease in discount rate increases money supply) * open market operations

Question 40

open market operations

Answer 40

* becuase government bonds can be stored indefinitely it is easy to buy/sell on open market * Central Bank uses this commodity to buy in order to increase reserves

Question 41

why does the Central Bank not buy bonds directly from the government?

Answer 41

* if it buys government debt directly from the government, it is lending directly to the government * essentially printing money to finance government budget deficit * Central Bank's decisions are independent of government

Question 42

if the central bank wants to... 1. increase money supply 2. decrease money supply?

Answer 42

* increase money supply * to pay for T-bills, CB electronlically increases reserves of seller * with more reserves, bank increases loans * increases money supply as money creation process ripples through economy * decrease money supply * Fed sells T-bills * decreases reserves of the buyer * with fewer reserves, bank decreases loans * decreases money supply as money creation process ripples in reverse through economy

Question 43

how do stocks impact M1/M2?

Answer 43

don't belong to M1 or M2 so don't affect either

Question 44

what is the effect of depositing the money from the sale of stocks into a savings account?

Answer 44

increases M2 because savings is a part of M2 but not M1, M1 stays the same

Question 45

what is the effect of moving money from savings to checking account?

Answer 45

* does not affect M2 because savings and checking accounts are both part of M2 * savings account not a part of M1 so M1 increases

Question 46

what is the effect of depositing cash into a checking account?

Answer 46

does not affect M1/M2 because it involves transferring money from one component of M1 to another component of M1

Question 47

what is the effect of depositing cash into a savings account?

Answer 47

* does not affect M2 because both savings account and cash are a part of M2 * M1 decreases because savings are not a part of M1