Week 9 - The Monetary System

Question 1

bartering

Answer 1

the exchange of one good for another

Question 2

money

Answer 2

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

Question 3

functions of money

Answer 3

medium of exchange
- an item that buyers give to sellers when they want to purchase goods and services

unit of account
- the yardstick people use to post prices and record debts

store of value
- an item that people can use to transfer purchasing power from the present to the future

Question 4

liquidity

Answer 4

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

Question 5

commodity money

Answer 5

the form of a commodity with intrinsic value

Question 6

gold standard

Answer 6

a system in which the currency is based on the value of gold and where the currency can be converted to gold on demand

Question 7

fiat money

Answer 7

used as money because of government decree and has no intrinsic value

Question 8

money stock

Answer 8

the quantity of money circulating the economycu

Question 9

currency

Answer 9

the paper bills and coins in the hands of the public

Question 10

demand deposits

Answer 10

balances in bank accounts that depositors can access on demand by writing a cheque or using a debit card

Question 11

role of central banks

Answer 11

• designed to oversee the banking system and regulate quantity of money in economy
• whenever an economy relies on fiat money, there must be some agency that regulates the system

Question 12

functions of central bank

Answer 12

• macroeconomic stability in maintaining stable growth and prices and through the avoidance of excessive and damaging swings in economic activity
• the maintenance of stability in the financial system

Question 13

monetary policy

Answer 13

the set of actions taken by the central bank in order to affect the money supply

Question 14

open market operations

Answer 14

the purchase and sale of non monetary assets from and to the banking sector by the central bank

Question 15

how does the central bank increase money supply

Answer 15

buys bonds from the public

Question 16

how does the central bank reduce money supply

Answer 16

sells bonds to the public

Question 17

European central bank

Answer 17

• overall central bank of the 19 countries comprising the European monetary union
• ECB was created in 1st June 1998 and is located in Frankfurt
• came into being because 11 countries of the European union decided that they wished to enter European monetary union and use the same currency

Question 18

Eurosystem

Answer 18

• primary objective of the ECB is to promote price stability throughout the euro area
• An important feature of the ECB and the Eurosystem is its independence
• The Eurosystem is the system made up of the ECB plus the national central bank of the 19 countries comprising the European Monetary Union

Question 19

a banks balance sheet

Answer 19

• assets include reserves of cash, securities it holds and loans
• liabilities include demand deposits, saving deposits, borrowings from other banks in the interbank market
• a bank must keep reserves which are deposits that banks have received but have not loaned out in order to cover possible withdrawals

Question 20

systemic risk

Answer 20

the risk of failure across the whole of the financial sector rather than just one or two institutions

Question 21

open market operations

Answer 21

• when the central bank buys government bonds, the money supply increases
• the money supply decreases when the central bank sells government bonds

Question 22

the refinancing rate

Answer 22

• the interest rate the ECB lends on a short term basis to the euro area banking sector
• increasing the refinancing rate decreases the money supply
• decreasing the refinancing rate increases the money supply

Question 23

Quantitative easing

Answer 23

• to put banks in better position to be able to lend an in so doing help to boost demand
• process involves banks buying assets
• in selling assets to central bank, institutions will hold more money in relation to other assets
• maintain their portfolios by using the money to buy bonds and shares of companies

Question 24

the effect of a monetary injection

Answer 24

• the quantity of money available in the economy determines the value of money
• primary cause of inflation is the growth in the quantity of money
• assume that the economy is in equilibrium and the central bank suddenly increases the supply of money
• supply of money shifts to the right
• the equilibrium value of money falls and the price level rises

Question 25

velocity of money

Answer 25

the speed at which the money changes hands, travelling around the economy from wallet to wallet