Money and BankingMoney and Banking

““Money is whatever is generally accepted in Money is whatever is generally accepted in exchange for goods and servicesexchange for goods and services——accepted accepted not as an object to be consumed but as an not as an object to be consumed but as an object that represents a temporary abode of object that represents a temporary abode of purchasing power to be used for buying still purchasing power to be used for buying still other goods and services.”other goods and services.”

-- Milton Friedman -- Milton Friedman

What is Money?What is Money?

__________is anything that is generally acceptable to sellers in exchange for goods and services.

A __________ __________ is an asset that can easily (i.e., quickly, cheaply, conveniently) be exchanged for goods and services.

What is Money?What is Money?

Functions of Money1) __________ of exchange2) Unit of __________3) Store of __________4) Standard of Deferred __________

Medium of Exchange (1)Medium of Exchange (1) The use of money as a __________ of

__________(to make transactions) lowers transactions costs.

Trade without money, directly exchanging goods for goods, is called __________.– Barter requires a __________ __________ of

__________—each party to the exchange has to want what the other has to trade.

– Finding someone else who wants what you have to trade and who has what you want is time-consuming and costly.

Medium of Exchange (2)Medium of Exchange (2)

A medium of exchange must be:– __________ __________ for __________– __________ : easy to transport and

transfer to the seller– __________ : measurable in both small

and large units

Unit of AccountUnit of Account

Money acts as a common unit of measurement.

This allows us to compare the values of very dissimilar things.

It makes accounting possible.As a result of these things, it lowers

information costs.

Store of ValueStore of Value Money makes it possible to carry buying power

forward into the future. Therefore, for money to be a store of value, it

must be __________.– __________ is the ability to retain value over time.– __________ can reduce the effectiveness of money as a

store of value.– This can lead to __________ __________—the use of

foreign money as a substitute for domestic money when the domestic economy has a high rate of inflation.

Standard of Deferred PaymentStandard of Deferred Payment Debt is denominated in money terms. The __________ for __________ is money. There is a difference between __________

and __________ :– __________ is what you use to pay for goods

and services.– __________ is available savings that are lent to

borrowers to spend.– __________ is __________, something you owe.

M1 Money SupplyM1 Money Supply

Money in the United States Today consists of:– __________ is the bills and coins that

we use.– __________ are also money because

they can be converted into currency and are used to settle debts.

What is Money?—M1What is Money?—M1 M1 is the narrowest and most liquid measure of the

money supply.– It includes financial assets that are immediately available for

spending on goods and services. M1 includes:

– __________– __________ Checks– __________ __________(checking accounts)– Other __________ __________(interest-bearing checking)

Demand Deposits and Checkable Deposits are called __________ __________ are checking accounts that can be drawn upon to make payments.

U.S. Money Supply: M1U.S. Money Supply: M1

About CurrencyAbout Currency In 2003, currency was 52% of M1. U.S. currency today is __________ backed

by gold or silver.– It is backed only by the confidence and trust of

the public. – It is a __________ monetary system. (“Fiducia”

means “trust” in Latin.) Money backed by gold or silver (or

something else of value) is called __________ __________.

Problems with Commodity MoneyProblems with Commodity Money

At times, the precious metal in gold or silver coins may be worth more than the face value of the coins.– In such situations, the public will begin to

hoard the coins.

What is Money?—M2What is Money?—M2M2 __________ to M1 less liquid assets

that can be converted to M1 assets quickly and at low cost.

Includes everything in M1Adds:

– __________ __________– Small denomination time deposits

(__________)– Retail money market __________ __________

U.S. Money Supply: M2U.S. Money Supply: M2

U.S. Money Supply: M3U.S. Money Supply: M3

Financial IntermediariesFinancial Intermediaries

__________ __________ are firms that take deposits from households and firms and make loans to other households and firms.

Financial IntermediariesFinancial Intermediaries

Four Types of Financial Intermediaries

1) __________ banks2) __________ and __________ __________3) __________ banks and __________ unions4) __________ __________ __________ __________

Financial IntermediariesFinancial Intermediaries __________ __________

– Financial institutions that offer deposits on which checks can be written. The make loans to households and businesses. They are corporations.

– Originally only commercial banks could offer (non-interest-bearing) checking accounts.

__________ __________– Savings and Loan Associations, Credit Unions, Mutual

Savings Banks.– Created to encourage saving, hence “thrift”.– Until 1980, these institutions could offer higher interest rates

on savings accounts than banks.– Now “thrifts” can offer many of the same services as

commercial banks.

U.S. Depository InstitutionsU.S. Depository Institutions

Deposit InsuranceDeposit Insurance

A bank panic occurs when depositors, fearing a bank’s closing, rush to withdraw their funds.

To reduce the likelihood of bank panics, in 1933 the __________ __________ __________ __________(FDIC) was created.– This is a federal agency that insures bank deposits

so that depositors do not lose their deposits if a bank fails.

Bank FailuresBank Failures