1International Finance 2003© Natasha Beliaeva
Activator Why do you accept money in
exchange for a good or service? What gives money its value?Represents purchasing power, acceptable form of currency, other people will accept it, etc…
Government says so, domestically and internationally accepted, represents value of goods and services
2International Finance 2003© Natasha Beliaeva
Activator – Functions of a BankFunctions
Description
Examples
A financial establishment that accepts money deposited by customers, pays it out when required, and makes loans at interest.
Saving1. Checking Account2. Savings account3. Certificates of Deposit (CDs)
Lending1. Mortgage 2. Auto3. Business4. Personal 5. Credit Cards
Wells Fargo, Bank of America, Chase, Citibank, Capital One Bank, etc.
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How does a bank make money?
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Money and Banking
Money – represents value, used to buy goods and services– Something that is regularly accepted in exchange for
goods and services
Three Functions of money:1. Medium of exchange2. Unit of Account3. Store of Value
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Jerry Maguirehttp://www.youtube.com/watch?v=OaiSHcHM0PA&list=PLD34B596F99A0DE3C&index=9&feature=plpp_video
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Jail economy videohttp://www.youtube.com/watch?v=uvcMvn9azxc&list=PLD34B596F99A0DE3C&index=10&feature=plpp_video
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Functions of MoneyMedium of Exchange – “spend money”; “in-between” buyers and sellers– Used to buy and sell stuff
Barter system – economy that relies on trade of one product for another– The direct exchange of products
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Unit of AccountUnit of Account– a way to compare prices– Compare the values; “What is the market value?”
Fossil – $89.95 Bulova – $399.95 Rolex - $11,995
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Store of Value – “save money” money holds its value if you decide to store it instead of spend it– Money holds value
Functions of Money
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The Kinds of MoneyCommodity money – money that has intrinsic value– Can be used as a commodity
Intrinsic value – item would have value if not used as money– Gold, silver, cigarettes (WW2), tulip bulbs (1600’s Europe), etc– Gold standard – gold used as money; money backed by gold,
the US is not on a gold standard
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The Kinds of MoneyFiat – “order/decree”; government issued money– Paper dollars– Money that has no intrinsic value
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Liquidity – ease with which an asset (liquid asset) can be converted into money/medium of exchange– Liquid – checking account– Nonliquid - House
Liquidity
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Money in the U.S. EconomyMoney supply – quantity of money (paper and digital) in the economy– 2012 – 9.61 Trillion
• Cash, checking accounts and savings accounts
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M1 and M2M1 – money that people can gain access to easily and immediately; checkable demand deposits (balances in bank accounts)– Demand deposit - an account from which deposited funds can be
withdrawn at any time – High liquidity
M2 – consists of all the assets in M1 plus assets that are not as liquid– Slightly less liquid, savings accounts, certificate of deposits (CDS),
mutual funds, Individual Retirement Accounts (IRAs),etc.
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Characteristics of Money
The six characteristics of money1. Durability2. Portability3. Divisibility4. Uniformity5. Limited in Supply6. Acceptability
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Banking
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Banking
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The Federal Reserve (“The Fed”) – the central bank of the U.S.Created in 1913 by Congress, Federal Reserve ActUS Central Bank – institution designed to oversee the banking system and regulate the quantity of money in the economy.Monetary policy – “money”, directly affects the nation’s money supply (expansionary or contractionary)– Dollar is officially a “Federal Reserve Note”
Chapter 16 - The Federal Reserve
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Central Bank is in Washington D.C.Run by a 7 member board of governorsAppointed by the president, confirmed by the Senate to 14 year termsBoard is led by the chairmanCurrent chairman – Janet Yellen
Structure of the Federal Reserve
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Fed is comprised of Twelve Federal District Reserve Banks– One Federal Reserve Bank for each district– Each bank monitors economic and banking conditions
in its district
Structure of the Federal Reserve
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Federal Reserve Bank Atlanta – Atlanta District
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The Federal Open Market Committee
Structure and function:Meet 8 times a year to discuss the economyRun by a 7 member board of governors (in Washington D.C.) and 5 of the 12 regional bank presidents All attend, only 5 vote, President of New York Fed always votes (financial capital of the worldIncrease or decrease the $ money $ supply
Think of a dam…• A dam controls the
flow of water downriver.
• Releasing too much water would cause flooding.
• Too little water would cause a drought.
The Fed is like a dam...
• The Fed is like the dam
• Releasing too much money would cause inflation.
• Too little money would cause a recession.
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Three monetary policy tools 1. Open-market operations2. Reserve requirements 3. Interest Rates
(Federal Funds Rate/Discount Rate)
The Fed’s Tools of Monetary Control
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Money Supply and Lending
What would you do if your friend asked you to borrow your last $10.00?
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Money Supply and Lending
Would you be more likely to lend them the money if your wallet
looked like this?
Less Money 1. Less likely to lend 2. Higher Interest Rates
to attract savers
More Money1. More likely to lend 2. Lower Interest Rates
to attract borrowers
Saver Borrower
• Low Interest Rates • High Interest Rates
• Low Interest Rates • High Interest Rates
Federal Reserve Controls the Nation’s Money Supply
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Government Bonds
Bond is a form of an IOU to the
government
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Banks Buy Bonds
Banks buy bonds and earn interest on them
Open-Market OperationsExpansionary Monetary Policy
Contractionary Monetary Policy
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Open-Market Operations – the purchase and sale of bonds by the Fed on the open-market– Most often used tool of the Fed
Open-Market Operations
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Increase the Money Supply– Buy bonds from the banks – credit the banks with money, increases the money
supply• Easy money policy - expansionary monetary policy• Goal is to expand the economy by lowering interest rates• Increase inflation• Encourages banks to lend money to consumers• Discourage saving• Increases the money supply
Open-Market Operations
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– Decrease money supply– Sell bonds to the bank, withdrawal money, decrease the money supply
• Tight money policy – contractionary monetary policy• Goal is to slow the economy by raising interest rates• Contract the economy• Cause inflation to slow (disinflation)• Discourage borrowing• Encourage saving• Restricts the money supply
Open-Market Operations
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Open Market Operations Explained
https://www.youtube.com/watch?v=zEP2vkK-LIk&index=37&list=PL58EB0BBFE9FC05FF
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Janet Yellen
http://www.youtube.com/watch?v=QXvUVywe3bY
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Reserve Requirements – regulations on the minimum amount of reserves that banks must hold against deposits– Banks must have a supply of
reserves to protect against "runs" or "panics.“
– 10% on M1 – Influences how much money
banks can create from each deposit (reserves)
– Increase in RRR, banks must hold more reserves, can loan out less
– Decrease in RRR, banks must hold less reserves, can loan out more
Reserve Requirements
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Banking Simulation
Name Deposit Amount Required Reserves
Excess Reserves
1. Gillian 1950 195 1755
2. Emily 250 25 225
3. Alexxus 750 75 675
4. Dre 20 2 18
5. Leo 325 32.5 292.5
6. Stefon 250 25 225
7. Taylor 520 52 468
8. Phallan 1610 161 1449
9. Gayland 1050 105 945
10. Shelby 5060 506 4554
11,785 1178.5 10606.5
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Banking Simulation
Loans
Name Loan Amount1. Chris 750
2. Shatorryia 8003. Ellie 450
4. McKenna 5005. Skye 350
6. Nacho 2007. Edie 650
8. Aaron 550
9. Daequan 100010. Hannah 200
Total 5450
Total Deposits _________
Total Reserves ___________
Excess Reserves _________
Total Loans ________
Remaining Excess Reserves
11,785
1,178.5
10606.5
5450
5156.50
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Bank Runs
https://www.youtube.com/watch?v=lbwjS9iJ2Sw
http://www.youtube.com/watch?v=2EnaU7D80oM&list=PL58EB0BBFE9FC05FF&index=13
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Fed Explained
http://content.time.com/time/video/player/0,32068,57544286001_1948059,00.html
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Fractional-reserve system – banks hold only a fraction of deposit reserves as opposed to 100% of depositsReserve – money deposit that banks have received but not loaned out– Required and Excess
Fractional Reserve System
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Required Reserve Ratio – set by the Fed, minimum amount that must be held by the bank on every deposit (required reserves)– Established by the Federal Reserve, 1/10 or 10% of M1
Excess Reserves – reserves in addition to reserve requirement set by the Fed
$1000 deposit, the bank would hold $100 in reserve and have $900 for lending
Money Creation
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Money multiplier formula – is the amount of money that the banking system generates with each dollar of reservesMM = 1/RRR– 1/.10 = 10– 1/.05 = 20
Money Creation– Initial Cash Deposit (principal) x MM– The higher the RRR, the less banks
have to loan out (vice versa)– 100 x (1/10) = 1000– 100 x (1/.05) = 2000
Money Multiplier
M on ey m u lt ip lie r =1
R eq u ired rese rv e ra tio
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Personal Deposit
Deposit (Money Supply)
Required Reserves (Assets)
Excess Reserves (Liabilities)
Person A
Person B
Person C
Totals
Money Multiplier
$200 $1800$2000
$1800 $180 $1620
$1620 $162 $1458
$5420 $542
• 2000 X 10 = $20,000
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Fractional Reserve System Video
http://www.youtube.com/watch?v=WMTyKduYrUk&list=PL58EB0BBFE9FC05FF&index=31&feature=plpp_video
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RRR and Money Multiplier Worksheet
RRR Required Reserves Excess Reserves
1%
5%
10%
15%
25%
$10
$50
$100
$150
$250
990
950
900
850
750
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Personal Deposit
Deposit (Money Supply)
Required Reserves (Assets)
Excess Reserves (Liabilities)
Person A $1,000 100 900
Person B
Person C
Person D
Person E
Totals
Money Multiplier
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Personal Deposit
Deposit (Money Supply)
Required Reserves (Assets)
Excess Reserves (Liabilities)
Person A $1,000 100 900
Person B 900 90 810
Person C
Person D
Person E
Totals
Money Multiplier
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Personal Deposit
Deposit (Money Supply)
Required Reserves (Assets)
Excess Reserves (Liabilities)
Person A $1,000 100 900
Person B 900 90 810
Person C 810 81 729
Person D
Person E
Totals
Money Multiplier
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Personal Deposit
Deposit (Money Supply)
Required Reserves (Assets)
Excess Reserves (Liabilities)
Person A $1,000 100 900
Person B 900 90 810
Person C 810 81 729
Person D 729 72.9 656.10
Person E
Totals
Money Multiplier
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Personal Deposit
Deposit (Money Supply)
Required Reserves (Assets)
Excess Reserves (Liabilities)
Person A $1,000 100 900
Person B 900 90 810
Person C 810 81 729
Person D 729 72.9 656.10
Person E 656.10 65.61 590.49
Totals
Money Multiplier
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Personal Deposit
Deposit (Money Supply)
Required Reserves (Assets)
Excess Reserves (Liabilities)
Person A $1,000 100 900
Person B 900 90 810
Person C 810 81 729
Person D 729 72.9 656.10
Person E 656.10 65.61 590.49
Totals 4095.10 409.51
Money Multiplier
3. From person A to B the money supply rose to $19004. In only 5 rounds of spending the money supply rose from $1000 to 4095.105. What would happen if the bank continued to loan excess reserves? The money could potentially grow to $10,000
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RRR and Money Multiplier Worksheet
RRR Initial Deposit
Multiplier Increase in Money Supply
1%
5%
10%
15%
25%
$1000
$1000
$1000
$1000
$1000
100
20
10
6.6
4
$100,000
$20,000
$10,000
$6,666
$4,000
• 1%• Did not grow as much• Hyperinflation• Lack of growth in the economy
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A $2000 deposit is made in the bank and the RRR is 12%.1. How much must be held as required reserves?2. How much will be available in excess reserves?3. How much could the initial deposit increase the money supply if
the RRR was 12%?4. How much could the initial deposit increase the money supply if
the RRR was 10%?5. How much could the initial deposit increase the money supply if
the RRR was 5%?6. Which RRR yielded the greatest amount? Explain why.
RRR and Money Multiplier Review
2000 x .12 = $240
2000 – 240 = $1760
MM = 1/.12 = 8.3
2000 x 10 = $20,000
2000 x 20 = $40,000
5%. The lower the RRR, the more they have to loan.
2000 x 8.3 = $16,666.67
MM = 1/.10 = 10
MM = 1/.05 = 20
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Low interest rates – good for borrowingHigh interest rates – good for savingDiscount Rate – interest rate on loans the Fed makes to banks; currently .75%– Fed is the lender of last resort– Banks borrow from Fed when it has low
reserves; too many loans, high withdrawals– Lower discount rate encourages borrowing– Higher discount rate discourages borrowing
Federal Funds Rate – short-term interest rate that banks charge each other for loans– Currently 0 - .25%
Interest Rates
Discount Rate
Federal Funds Rate
(Federal Funds Rate)
66International Finance 2003© Natasha Beliaeva
https://www.youtube.com/watch?v=tOXpijd6t6k&index=38&list=PL58EB0BBFE9FC05FF
Interest Rates and the Fed Explained
https://www.youtube.com/watch?v=8Hq5zw4YaZQ&list=PL2EVBfEJ5a_JPvnd463lXOKmqdzL19ygR
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The FederalReserve “The FED”
Board of Governors (7)Washington D.C
12 District Banks
Federal Open Market Committee (FOMC)
Monetary Policy
2. Required Reserve Ratio (RRR)
3. Interest Rates1. Open Market Operations
Buy Bonds – Increase Money SupplySell Bonds – Decrease Money Supply
Decrease RRR – Increase Money SupplyIncrease RRR – Decrease Money Supply
Decrease IR - Increase Money SupplyIncrease IR - Decrease Money Supply
Buying and selling of bonds Percentage that must be held in reserves by the bank (10%)
Discount Rate – I.R. charged by the FedFederal Funds Rate - I.R. charged from
bank to bank
Loose Monetary Policy (Easy, Expansionary) Tight Monetary Policy (Contractionary)
Loose vs. Tight Monetary Policy
Fed buys bonds from the banks
Increases money supply
Lowers interest rates
Consumers and firms will borrow more
Increased borrowing leads to increased spending
Spending raises GDP and employment
Fed sells bonds to the banks
Decreases money supply
Raises interest rates
Consumers and businesses will save more; borrow less
Decreased borrowing leads to decreased spending.
Decreased spending slows down the economy
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Essential Questions
1. What is the structure of the Federal Reserve System?– 7 Board of Governors at the U.S. Central Bank in D.C.– 12 District Banks
2. What are the three tools of monetary policy used by the FED?1. Open Market Operations2. Required Reserve Ratio3. Interest Rates (Federal Funds Rate/Discount Rates)
3. What is the purpose of the FED?1. Control the money supply2. Price stability, economic growth, low unemployment
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Banking
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Banking
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Federal Reserve Bank Atlanta – Atlanta District
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Prequizzes
1.Prequiz-What Are Taxes? Ch. 14 Sec. 1 pgs. 359-363
2.Prequiz-Federal Taxes Ch. 14 Sec. 2 pgs. 365-369
3.Prequiz-Budget + Debt, pgs.371-373,387-390,403-405
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Formulas for the Quiz
1. MM = 1/RRR1. 1/.10 = 102. 1/.05 = 20
2. Growth in the Money Supply = Deposit x multiplier1. 1000 x 10 = 10,0002. 1000 x 20 = 20,000
3. Required Reserves = deposit x RRR1. 1000 x .10 = 100
4. Excess Reserves = deposit – required reserve1. 1000 – 100 = 900
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SQ3R pgs. 420 – 421 Functions of Federal Reserve
1. Serving Government2. Federal Government’s
Banker3. Government Securities
Auctions4. Issuing Currency5. Serving Banks6. Check Clearing7. Supervising Lending
Practices8. Lender of Last Resort
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1. How does the Fed Serve the Government?– Serves the government’s banking needs
relative to its budget and taxation2. What makes the Fed the Federal
Government’s Banker ?– Maintains a checking account for the U.S.
treasury– Processes payments, social security
checks, IRS refunds, stimulus checks, etc. 3. How does the Fed sell Government
Securities Auctions ?– Sells, transfers, and redeems
government bonds, bills, notes, and securities for the government
4. How does the Fed issue currency?– Department of treasury prints currency,
Fed issues it– Take old money out of circulation
SQ3R
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5. How does the Fed Serve the Banks?– Serves the bank through check
clearing services, safeguards bank reserves and lend reserves to banks.
6. What is the check-clearing function?– Process by which banks record who
gives up money and who receives it– Fed clears checks quickly and
accurately 7. What is their supervisory role?
– Monitors bank reserves, sends out examiners to check up on lending, rates the banks.
8. How is the Fed the lender of last resort?– In emergency situations, the Fed can
loan money to its member banks– Charge the banks a discount rate
SQ3R
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The Fed Today Video Questions
1. What is a U.S. $20 bill officially?2. How many forms of currency existed
at one time during the 1800s? 3. Why did some people lose faith in
the banking? 4. What is the Fed’s primary goal?5. What can a fast/slow money supply
lead to?6. Government securities are in the
form of __________7. What is the transfer of money from
one bank to cover a check called?8. How many checks does the Fed
clear per year?
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1. a. Open market operations b.
2.
3. $18,0004. 1/.20 = 55. $10000 x 5 = $50,0006. Less, because a smaller amount of each loan gets re-deposited
to be available to be loaned again.7. Less, because a smaller amount of each deposit gets loaned out
to be available to be deposited again.
Chapter 10 – Practice Worksheet
82International Finance 2003© Natasha Beliaeva
8. a. 1,000, because there is 1,000 of currency and 0 of deposits.b. 1,000, because there is now 0 of currency and 1,000 of deposits.c. 1,000 x (1/0.20) = 5,000, because 1,000 of new reserves can
support 5,000 worth of deposits.d. The total potential increase is 5,000, but 1,000 was currency
already in the system. Thus, an additional 4,000 was created by the banks.
e. 1,000 x (1/0.10) = 10,000.f. Banks can create more money from the same amount of new
reserves when reserve requirements are lower because they can lend a larger portion of each new deposit.
g. 1,000 x 1/(0.10+0.10) = 5,000.h. Yes, they are the same. With regard to deposit creation, it
doesn’t matter why banks hold reserves. It only matters how much they hold.
Chapter 10 – Practice Worksheet
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Binder Check Due Today 4-27
Chapter 10 +161. SQ3R - The Functions of the
Fed 2. The Fed Webquest 3. RRR + Money Multiplier
Worksheet/Chapter 10 Practice
4. Federal Reserve to buy 600 billion in bonds, article
5. Vocab Terms 6. Daily Tens 7. Ch. 10 + 16 Study Guide 8. Ch. 10 + 16 CW Puzzle 9. Ch. 10 + 16 Notes
84International Finance 2003© Natasha Beliaeva
Include on your test
1. Name 2. Date (11-27)3. Class Period4. Test – Money and the Fed5. ID:A, B, or C
85International Finance 2003© Natasha Beliaeva
Formulas for the Test
Required Reserves = Deposit x RRR– Example = $1,000 deposit x .10 = $100
Excess Reserves = Deposit – Required Reserves– Example = $1,000 – 100 = $900
Money Multiplier = 1/RRR– Example = 1/.10 = 10
Money Creation = Principal x MM– Example = $1000 deposit x 10 = $10,000
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The Six Characteristics of Money – pgs. 245-246
Characteristic Description Examples
1. Durability
2. Portability
3. Divisibility
4. Uniformity
5. Limited Supply
6. Acceptability
Must withstand physical wear and tear that is a part of being used over and over again.
Ancient Roman coins more than 2000 yrs. old. Rag/cloth content helps keep money durable (1 yr. life)
People need to be able to take money with them from place to place.
Paper money and coins are easily carried and very portable.
Money must be easily divided into smaller denominations.
Spanish doubloons, U.S. various $1, 5, 10, 20, 50, 100, denominations. Penny, Nickel, Dime, Quarter, etc.
Money must be uniform, easy to count and measure.
A U.S. dollar always buys $1 worth of goods.
The money supply must be kept in limited supply.
Pebbles on the beach (unlimited), US Federal Reserve is responsible for controlling the money supply.
Everyone in an economy must be able to exchange the objects that serve as money.
US we expect money to be accepted domestically and internationally.