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Chapter 12 Money and Monetary Policy (Monetary Policy and the Federal…
Chapter 12 Money and Monetary Policy
Money
characteristics
NECESSARY Characteristics of money
need to be a
medium of exchange
so a "double coincidence of wants" isn't necessary
storeable
for later use
must have a known
unit of value
so it can be traded easily
Other characteristics of ideal money
Scarcity
of money helps the value stay stable since it makes it easier to ensure that every increase in money matches an increase in goods produced
durability
for convience
needs to be
divisible
into small amounts to pay for cheap things
needs to be
accepted
by the people as money
WHY ISN'T THIS A NECESSITY??????
The Money Supply
M1 -- the Basics
Coin -- worth much less than the metal they are made of -- called
nominal money
because value based on market value not analysis
Paper -- issued by government and also
nomial
since the government declares how much they are worth --
I DON'T REALLY GET THIS INTRINSIC VALUE IDEA
demand deposites
-- checking accounts that people make in order to be able to turn them into money or write a check on demand
NOW accounts
-- other checkable deposites:
credit unions
and
saving and loan companies
now also offer checking services to compete with banks
M2 -- Near Money
M1 +
time accounts and savings accounts
things that cannot be directly used as payment --
WHY AREN'T CHECKING ACCOUNTS IN HERE AND ISN'T THIS DOUBLE COUNTING?????
Keysian demand for money
Its important to think about where the demand for money comes from since if people want more money than in circulation prices rise and if want less money prices fall or rise more slowly
transactions motive
-- people want money to be able to spend on necessities
precautionary motive
-- people want a money stored in banks etc. since we don't know what will happen tomorrow and so we can gain interest on money
speculative motive
-- want money to be able to invest
when
Interest rates
or the cost of "borrowing" money high people will purchase non-money assets and demand for money goes down -- opposite direction demand for money goes up
Monetary Policy and the Federal Reserve
Monetary Policy affects the amount of money in circulation because it is shown that this dicates how much spending, output, and price levels of country
History
Federal Reserve started in 1913 though precessors include national banks since era of Hamilton
Structure -- all parts (12 people) together make the Federal Open Market Committee
7 Board of Govenors to supervise banks and set requirements
Advised by Consumer Advisory Council, Federal Advisory Council, and Thrift Institutions Advisory Council
5 presidents of 12 district banks that propose needed changes and manage gov. money
Tools to affect interest rates and money supply
Reserve requirement
Fed requires banks keep certain proportion of money in fed reserve incase everyone decides to withdraw through
fractional reserve system
Money in reserve cannot be used as investment so if reserve requirement goes up, money in circulation goes down
Not used super often because otherwise it would make it hard for banks to invest
Discount Rate
Fed can change
discount rate
or interest rate of borrowing from bank to fed
Sometimes banks want to borrow from fed if they need to fill resreves with "new money" due to the timing on another investment (many other reasons for borrowing as well
Not encouraged by gov. since it puts money into the economy immediately
banks can also borrow bank to bank through the
federal funds rate
which is also affected by a change in the discount rate
Other interest rates including the
prime interest rate
(bank to invidvidual) are affected as well particularly since a change in the discount rate serves as a signal for banks
can signal
easy money
(more money going into the market) or
tight money
(less money going into the market)
ARE THESE TERMS CORRECTLY DEFINED?????
Open Market Operations
Scenario 1: Fed wants to boost money supply
Fed gives money to individuals for securities and those individuals put the money in the bank
Now bank has money to loan to others
Fed calls bank and asks if bank has any customers who are willing to sell gov. securities to fed
Scenario 2: Fed wants to shrink money supply
Fed decides to sell securites to individuals and the process goes in reverse
One problem: if demand for money goes down, fed can't boost interest rate without decreasing money supply --
IS THIS CORRECT???
Shift in money supply directly affects GDP -- CAN WE GO OVER THIS AGAIN
Fed also incharge of other operations such as checking that bank to bank transfers work and overseeing foreign investment in our government stocks
Milton Friedman and Monetarism
Milton Friedman was the son of two poor imigrants in NYC -- as a result became anti-government intervention
With most of his policies he wanted the people to be able to have choice and not a government mandated ideal
He was a
monetarist
i.e. believes that government should intervene less in money supply
IS THIS A DECENT DEFINITION????
Ex. -- didn't think attacking interest rates works since interest rates don't directly mandate a change in money supply
Change in money supply should be dicated by MV=PQ
MV is the "buyers half of the equation" where M= money supply and V= velocity of same money used for different purposes (believed to be a constant)
PQ = the GDP where P is the average price of all goods/services and Q is the quantity produced
Therefore, in order to boost the GDP every year, all the governemnt has to do is boost the money supply by 3-6%
WHAT'S QUANTITATIVE EASING????