Money
1.
Uses of money
-
Medium of exchange (trade/barter).
-
Units of accounts: establishes economic
worth in the exchange process for example: giving something to someone in order
to reduce price.
-
Store of value: money holds its value
over a period of time whereas products may not.
2.
Types of money
-
Commodity money: it gets its value from
the type of material from which it was made. An example would be gold coins and
silver coins.
-
Representative money: paper money backed
by something tangible, that gives it value. Example would be(“I owe you”)
-
Fiat money: it is money because the
government says so. “used in the united states”.
3.
Characteristics of
money
·
There are six characteristics of money:
-
Durable- paper money and coins both last.
-
Portable
-
Divisible (can be broken down in many
ways)
-
Uniform (identical)
-
Scarce
-
Acceptable (Everywhere you go)
Money supply
1. M1 money supply:
consists of currency (coins and cash), it also consists of checkable deposits (demand
deposits) and travelers checks.
75% of the money we use comes from M1 money. Out of all three money
supply it is the “liquid” (easy to break down).
2. M2 money: consists of M1 money +
savings + deposits built by banks outside of the United States. Saving accounts
are not “liquid”
(not easy to break down).
3. M3 money: consists of M2 money +
certificates of deposit that are held by private institutions
(Pay bank penalty for withdrawing money)
Time value of money
Is a dollar today worth more than a dollar tomorrow?
Yes
Why?
-opportunity cost and inflation. This is the reason
for charging and paying interest.
How to
calculate time value of money
V= future value of $
P= present value of $
r= real interest rate (nominal rate-inflation rate)
expressed as a decimal.
n=years
k= number of times interest is credited per year.
The simple interest formula: v= (i+r)^n * p
The compound interest formula: v= (i+r/k)^nk * p
Demand
for money has an INVERSE relationship between nominal interest rates and the
quantity of money demanded.
1. What
happens to the quantity demanded of money when interest rates increases? – Quantity
demanded decreases because individuals would prefer to have interest earning assets
instead of borrowed liabilities.
2. What
happens to the quantity demanded when interest rates decreases?
Quantity demanded increases. There is
no incentive to convert cash into interest earning assets.
Slope
of demand is always downward sloping. Money supply is upward sloping.
Increasing money supply
Increasing price level
Decreasing money supply
Decrease>increase>decrease>decrease
money supply interest rate investment AD
Financial
assets
Examples are stocks and bonds. They
provide an expected future benefit. It is what you own.
Financial
liabilities
It is
simply what you owe.
Interest rate
It is the cost
of borrowing money.
Stocks
They are financial assets that
convey ownership in a company.
Bonds
It is
a promise to pay a certain amount of money or interest in the future.
What banks do
·
A bank is a financial intermediary
-Uses liquid assets (i.e. bank deposits) to finance
the investments of borrowers.
·
Process is known as fractional reserve
banking
-
A system in which depository
institutions hold liquid assets less than the amount of deposits.
-
Can take the form of:
1. Currency
in bank vaults.
2. Bank
reserve: deposits held at the Federal Reserve.
What
banks do-
Basic accounting review
·
T account (balance sheet)
-
Statements of assets and liabilities.
·
Assets (amounts owned)
-
Items to which a bank holds legal claim.
-
The uses of funds by financial
intermediates.
·
Liabilities (amounts owed)
-
The legal claims against a bank.
-
The sources of funds for financial intermediaries.
Functions of FED
1. To
issue currency.
2. Set
reserve requirement and hold reserves of banks.
3. To
lend money to banks and charge them interest.
4. They
are a check clearing servings for banks.
5. Acts
as a personal bank to the Government.
6. Supervises
member banks.
7. Controls
money supply in the economy.
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