Money vs' Barter

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Money vs. Barter

• Money - Any good that is widely accepted for
  purposes of exchange and in the repayment of
  debt.
• Barter - Exchanging goods and services for other
  goods and services without the use of money.

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Functions of Money

• Money as a Medium of Exchange - Anything that
  is generally acceptable in exchange for goods and
  services. Money reduces the transactions cost of
  making exchanges.

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Functions of Money

• Money as a Unit of Account - A common measure
  in which relative values are expressed. Because
  all goods are denominated in money, determining
  relative prices is easy.

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Functions of Money

• Money as a Store of Value - The ability of an
  item to hold value over time. Allows us to accept
  payment in money for our productive efforts and
  to keep that money until we decide how to spend
  it.

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From Barter to a Money Economy

• Money evolved out of a barter economy as traders
  attempted to make exchange easier.
• In a barter economy, before a trade can be made,
  a trader must find another trader who is willing
  to trade what the first trader wants and at the
  same time wants what the first trader has.
• A few goods that have been used as money include
  gold, silver, copper, cattle, rocks, and shells.

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Money Supply M1

• M1 Currency held outside banks
• Checkable deposits
• Travelers checks

• Currency includes coins and paper money (Federal
  Reserve notes)
• Checkable deposits are deposits on which checks
  can be written
• Traveler's checks are internationally redeemable
  drafts purchased in various denominations from a
  bank or traveler's aid company.

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Money Supply M2

• M2 M1
• Savings deposits (including money market
  accounts)
• Small denomination time deposits
• Money market mutual funds (retail)

• Savings Deposit is an interest-earning account at
  a commercial bank or thrift institution.
• Money Market Deposit Account is an
  interest-earning account at a bank or thrift
  institution. Most offer limited check writing
  privileges.
• Time Deposit is an interest-earning deposit with
  a specified maturity date.
• Money Market Mutual Fund is an interest-earning
  account at a mutual fund company.

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Money Supply Data
For current and historical data on the money
supply click either table above
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Bank Reserves

• Reserves - The sum of bank deposits at the Fed
  and vault cash.
• Required Reserve Ratio (r) - A percentage of each
  dollar deposited that must be held on reserve (at
  the Fed or in the banks vault).
• Required Reserves - The minimum amount of
  reserves a bank must hold against its checkable
  deposits as mandated by the Fed.
• Excess Reserves - Any reserves held beyond the
  required amount. The difference between (total)
  reserves and required reserves.

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Bank Reserves

• Reserves Bank deposits at the Fed Vault
  cash
• Required reserves r x Checkable deposits
• Excess reserves Reserves - Required reserves

T - Account
A simplified balance sheet that shows the
changes in a banks assets and liabilities.
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Simple Deposit Multiplier

• Maximum change in checkable deposits (1/r ) x
  ?R where r the required reserve ratio and ?R
  the change in reserves resulting from the
  original injection of funds.
• In the previous example
• Maximum change in checkable deposits
• (1 / 0.10) x 1,000
• 10 x 1,000
• 10,000
• In the equation, the reciprocal of the required
  reserve ratio(1/r ) is known as the simple
  deposit multiplier

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The Federal Reserve System

• The central bank of the United States
• Chief function is to control the money supply

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Functions of the Fed

• Control the money supply
• Supply the economy with paper money (Federal
  Reserve notes)
• Provide check clearing services
• Hold depository institutions reserves
• Supervise member banks
• Serve as the governments banker
• Serve as the lender of last resort
• Serve as a fiscal agent for the Treasury.

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Borrowing Reserves

• Federal Funds Market - A market where banks lend
  reserves to one another, usually for short
  periods.
• Federal Funds Rate - The interest rate in the
  federal funds market the interest rate banks
  charge one another to borrow reserves.
• Discount Rate - The interest rate the Fed charges
  depository institutions that borrow reserves from
  it.

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Fed Monetary Tools and Their Effects on the Money
Supply
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Demand for Money

• Represents the inverse relationship between the
  quantity demanded of money balances and the price
  of holding money balances.
• Interest rate is the price (opportunity cost) of
  holding money balances.

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The Supply of Money
The supply curve of money is a vertical line at
the quantity of money, which is largely, but not
exclusively, determined by the Fed.
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Equilibrium in the Money Market

• At an interest rate of i1, the money market
  is in equilibrium There is neither an excess
  supply of money nor an excess demand for money

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Keynesian Transmission Mechanism
(a) An increase in the money supply brings on a
lower interest rate. (b) As a result, investment
increases. (c) As investment increases, total
expenditures rise and the aggregate demand curve
shifts rightward. Real GDP rises from Q1 to Q2.
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The Monetarist TransmissionMechanism Short
Direct
Changes in the money market directly affect
aggregate demand in the goods and services
market. For example, an increase in the money
supply leaves individuals with an excess supply
of money that they spend on a wide variety of
goods. M1 ? ? ? AD
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The Monetarist TransmissionMechanism
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Monetary Policy

• Expansionary - The Fed increases the money
  supply to address a recessionary gap.
• Contractionary - The Fed decreases the money
  supply to address an inflationary gap