Money

Uses of Money:

1. Medium of Exchange

• Barter and trade

2. Unit of Account

• Economic worth
• "is this the right value"

3. Store Value

• "is this dollar really a dollar"
• is the money at home that is stores the same value as the one in the bank?
• NO because the money in the bank draws interest 

Types of Money

1. Commodity 

• Item, product, material
• Gold and silver 

2. Representative money

• ex: IOU's
• basically worthless

3. Fiat Money

• It is money because the government says so

Characteristics of Money

1. Durability

• wrinkled but still in same composition
• however if washed, it's faded

2. Portability

• shoes, wallet, ground
• Travels everywhere

3. Divisibility

• Can be broken up in multiple units

4. Uniformity
5. Scarcity
6. Acceptability

• Taken everywhere
• Wherever you go, the rate is the same

Money Supply

M1 Money:

• Cash, coins, currency, traveler's checks (ques), demand or check-able deposits (checks, savings account)
• 75%
• the largest component of M1 money is checking deposits

M2 Money: 

• M1 money + savings account

M3 Money: 

• M2 + Money market accounts + CD's

Money Market Account:

• CD's: Certificate of Deposit = money saved, grows interest
• gives lowest rates because they don't want to give you interest
• Liquidity: easy to convert to cash
• M2 and M3 are easy to convert to cash
• M1 isn't easy because it's checks 

Balance Sheet

• it summarizes the financial position of a bank at a certain time 
• Liabilities = Assets
• ER + RR = DD
• Liabilities = what you owe
• Assets = what you own

Liabilities

• Net worth or Owner's Equity
• DD (demand deposits - checkable deposits)

Assets

• RR (required reserves)
• ER (excess reserves)
• Property
• Securities or Bonds (investments)
• Loans

Fractional Reserves Banking System

• the bank holds a fraction of the deposits back as a reserve in the bank
• that's how they earn money
• vault cash
• loan out your money saved

Money Market

• It is the market where the Fed and the users of money interact thus determining the nominal interest rate.

Money Demand (MD or DM)

• Comes from households, firms, the government, and the foreign sector.

Money Supply 

• Determined ONLY by the federal reserve.
• Vertical because it is independent of the interest rate

Types of Money Demand

1. Transaction Demand

• Demand for the dollar as a medium of exchange

2. Asset Demand

• Demand for money as a store of value 
• It is dependent upon the interest rate

3. Total Money Demand

• It is downward sloping because at high interest rates
• People are less inclined to hold money and more inclined to hold stocks and bonds. 

Monetary Policy

Contractionary Policy:

• MS will shift to the left
• Interest rate increases
• reserve ratio - increases
• discount rate - increases
• OMO - sell bonds (less cash) MS decreases

Expansionary Policy:

• MS will shift to the right
• Interest rate decreases 
• reserve ratio - decreases
• discount rate - decreases
• OMO - buy bonds (more cash) MS increases

• Loanable Funds: it is the market where buyers and savers meet to exchange funds at the real interest rate. 
• Both the demand and supply of loanable funds comes from households, firms, government, and the foreign sector 

Tools that the Fed Use:

1. Discount Rate:

• FDIC member banks and other eligible institutions may borrow short term loans directly from the Fed.
• "LAST RESORT"

2. Reserve Requirement 

• The fed sets the reserve requirement ratio (RRR)
• Banks keeps the reserve requirement $ amount in a vault

3. Open Market Operations (OMO)

• ONLY TOOLS/OPTIONS ARE TO BUY OR SELL BONDS
• The feds can buy or sell bonds from the public or the banks
• If the feds sell bonds the feds gets the cash and removes it from money supply
• On the flip side- if the fed buys bonds, the nation gets 

4. Federal Fund Rate (unofficial)

• FDIC member banks loan each other money overnight.
• Borrowing from your friend 

5. Prime Rate

• The interest rate that banks charge our most credit-worthy customers.

Expansionary Monetary Policy/Easy Money (Recession)

• Buy bonds (Big Bucks)
• RR down
• DR down
• FFR down
• i down
• Ig, Increases
• AD up
• MS up
• $ Depreciates

Contractionary Monetary Policy/Tight Money (Inflation)

• Sell bonds
• RR up
• DR up
• FFR up
• interest, Increases
• Ig, Decreases
• AD, Shifts Down
• MS, Shifts Left
• $ Appreciates

Money Creation Process

• (Assume 10% reserve requirement)