Introduction to Business

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Chapter 12 Money andFinancial Institutions
pp. 174-189
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Learning Objectives
After completing this chapter, youll be able to

1. Describe the functions and characteristics of
   money.

1. Explain the services that banks offer.

continued
3
Learning Objectives
After completing this chapter, youll be able to

1. Name the types of banks.

1. Identify the functions of the Federal Reserve
   System.

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Why Its Important
Understanding the way money and financial
institutions work is crucial to understanding the
economy.
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Key Words
monetary system money financial institution bank
account deposit withdrawal interest
continued
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Key Words
electronic funds transfer (EFT) collateral mortgag
e safety-deposit box Federal Reserve System
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The History of Money
In the monetary system goods and services are
indirectly exchanged using money, which can then
be exchanged for other goods and services.
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The History of Money
Money can be anything that people accept as a
standard for payment.
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The History of Money
In other times and places people have used
shells, stones, corn, parrot feathers, and even
gopher tails for money.
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Figure 12.1
WOULD THESE ITEMS BE ACCEPTABLE AS MONEY?
Imagine what business would be like without
money. If you worked in a fast-food restaurant,
it might pay you in food. Bartering is exchanging
one product for another. American Colonialists
engaged in this way of doing business. Explain
why or why not these items could serve as money.
Recreate this table and check the appropriate
box(es) for each that applies.
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Functions of Money
The three basic functions of money are

1. It is a medium of exchange
2. It is a standard of value
3. It is a store of value

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Characteristics of Money
For money to carry out its functions, it must
have several characteristics. Money must be

• Stable in value
• Scarce
• Accepted

continued
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Characteristics of Money
Money must be

• Divisible into parts
• Portable and durable

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Graphic Organizer
Graphic Organizer
Functions and Characteristics of Money
FUNCTIONS
CHARACTERISTICS

• Stable
• Scarce
• Accepted
• Divisible
• Portable
• Durable

• Medium of exchange
• Standard of value
• Store of value

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Fast Review

1. What is the monetary system?
2. How is money a standard of value?

continued
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Fast Review

1. What are some of the characteristics money must
   have to be useful?

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Banking
The banking system is the main type of financial
institution, or organization for managing money,
in our economy.
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Storing Money
A bank account is a record of how much money a
customer has put into or taken out of a bank.
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Storing Money
The money put in a bank is called a deposit.
The money taken out of a bank is called a
withdrawal.
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Storing Money
Checking accounts are used for storing money in
the short term so you can draw on it easily if
you want to go shopping or pay a bill.
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Storing Money
Savings accounts are used for storing money over
a long period of time.
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Storing Money
Interest is a rate the bank pays you for keeping
your money there.
If a bank pays you 5 percent interest per year on
a 1,000 savings account, youll have earned 50
after one year.
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Business Building Blocks
Understanding Interest
Simple interest, compounded annually, is a
percentage of the amount borrowed. The amount
borrowed is called the principal. Compound
interest may be compounded daily, monthly, or
yearly.
continued
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Business Building Blocks
How to Compute Interest
Simple interest. You borrow 1,000 for 3 years at
a rate of 10 percent per year. Heres how to find
out the amount you owe at the end of three years
continued
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Business Building Blocks
How to Compute Interest
Step 1. Convert the interest rate percent to its
decimal equivalent.
(10 10/100 .10)
continued
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Business Building Blocks
How to Compute Interest
Step 2. Use this formula interest principal x
interest rate x time
continued
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Business Building Blocks
How to Compute Interest
Decimal Interest Rate
x

Principal
Time
Interest
x
x
x
1,000

3
300
.10
continued
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Business Building Blocks
How to Compute Interest
At the end of 3 years, the cost of the loan would
be 300. Since you also must pay back the
principal, you owe the lender 1,300.
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Transferring Money
Banks make it easy to transfer money from one
person or business to another.
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Transferring Money
Today more banks are using electronic funds
transfer (EFT) to move money around.
With EFT, money is transferred from one account
to another through a network of computers.
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Lending Money
The money you deposit in a bank makes it possible
for the bank to lend money to other customers.
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Lending Money
Most bank loans require some form of collateral.
Collateral is something valuable you put up for a
loan.
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Lending Money
The four main types of loans that banks offer
are

• A mortgage loan
• A commercial loan
• An individual loan
• A line of credit

continued
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Lending Money
A mortgage is a deed to give the property to the
lender if the loan is not paid back.
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Making an Ethical Decision

1. What are the most important financial issues that
   people should consider when buying a home?
2. What are the advantages of living in
   neighborhoods that are economically mixed?

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Other Financial Services
Many banks provide financial advice on managing
and investing your money.
You can also store valuable items, such as
jewelry and certificates, in safety-deposit
boxes.
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Other Financial Services
Many banks offer credit cards.
Banks also manage trust funds, such as an
inheritance.
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Figure 12.2
HOW BANKS DO BUSINESS
Banks are businesses that provide financial
services to make a profit. What would happen to
a banks profits if deposits suddenly decreased?
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Fast Review

1. What are the three main functions of a bank?
2. How does an EFT work?

continued
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Fast Review

1. What are the types of loans a bank offers?

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Commercial Banks
Commercial banks offer a full range of services
such as checking and savings accounts, loans, and
financial advice.
They are often called full-service banks.
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Commercial Banks
To make a profit, commercial banks usually charge
much more interest on the money they lend than
the interest they pay on savings accounts.
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Savings and Loan Associations
Savings and loan associations were originally set
up to offer savings accounts and home mortgage
loans.
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Savings and Loan Associations
The purpose of the savings and loan associations
was to encourage people to save money and make it
easier to buy a home or start a business.
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Savings and Loan Associations
Savings and loan associations charged lower
interest on loans and paid higher interest on
savings.
In the 1980s about 20 percent of savings and
loans failed.
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Savings and Loan Associations
The government passed new regulations allowing
savings and loan associations to charge higher
interest rates and offer more services like
credit cards.
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Credit Unions
Credit unions are nonprofit banks set up by
organizations for their members to use.
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Credit Unions
Credit unions offer members a full range of
services, including credit cards, checking
accounts, and loans.
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Credit Unions
Credit unions offer low-interest loans and pay
high interest rates on savings accounts.
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Other Financial Institutions
Mortgage companies provide loans specifically for
buying a home or business. Finance companies
offer short-term loans to businesses.
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Other Financial Institutions
Insurance companies not only provide protection
against things like fire and theft, but also
offer loans to businesses.
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Other Financial Institutions
Brokerage firms that sell stocks and bonds may
also offer a wide range of financial services to
its customers.
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Fast Review

1. What are the types of banks?
2. How is a credit union different from a commercial
   bank?

continued
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Fast Review

1. Name some financial institutions other than banks
   that offer similar services.

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The Federal Reserve System
The Federal Reserve System (or Fed) is the
central banking organization in the United
States.
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The Federal Reserve System
Congress set up the Fed in 1913 to end the
periodic financial panics that occurred during
the 1800s and early 1900s.
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The Federal Reserve System
The Fed consists of 12 Federal Reserve district
banks, 25 branch banks, and about 5,000 member
banks.
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Functions of the Fed
The six functions of the Fed are

• Clearing checks
• Acting as the federal governments fiscal agent
• Supervising member banks

continued
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Functions of the Fed

• Regulating the money supply
• Setting reserve requirements
• Supplying paper currency

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Fast Review

1. What is the Fed?
2. Name the six functions of the Fed.

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How does the Fed create money?
continued
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With a 20 percent reserve requirement, if a bank
lends out 1,000 how much money must it hold in
reserve?
continued
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A bank must keep in its reserve 20 percent of a
new deposit. How much money does the bank need to
keep if it lends you 800?
continued
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How does the money supply at a bank expand?
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End of Chapter 12 Money andFinancial
Institutions
pp. 174-189