Thursday, October 25, 2007

Topic 6 - Money and Banking (Chapter 15)

Class Notes - Money and Banking (Chapter 15)

I) The functions of money
a) medium of exchange
b) unit of accounting
c) store of value
d) the concept of liquidity (i.e. the ease of converting a house into cash vs having cash on hand).
e) what backs money? - fiduciary monetary system (i.e. trust that the government will maintain stability in money)

II) What is money?
a) monetary base - the bills and coins in your hand
b) m1 = monetary base + transactions deposits (checks and check cards) + traveler's checks
c) m2 = m1 + savings accounts + small denomination time deposits (i.e. cd's less than $100,000 in value) + money market mutual funds
d) the idea is that what we consider money is more than just cash on hand. That is, other assets, like savings account, are close enough to actual money that we should include it in our "broader" definition of money

III) Financial intermediation
a) why do we have banks?
1) asymmetric information - the borrower may have more information about his company than you do, which could lead to fraud if you do not investigate thoroughly. But this is time consuming
2) moral hazard - after the borrower has the money, he may take risks with it that he otherwise wouldn't take. Preventing this is very time consuming
3) big banks can often do things cheaper than people can individually
b) therefore, most people lend and borrow money indirectly via banks rather than lending to each other directly.

IV) Central Banks
a) Purpose
1) perform banking functions for their nations government
2) provide financial services for private banks
3) conduct monetary policy *

V) The US Federal Reserve
a) organization
Board of Governors - 7 full time members. The chair is the head official for both the BOG and the Fed. This is the role Greenspan had for many years. Currently Ben Bernanke is the "Fed chief"
b) 12 Fed district banks (with 25 branches). Each of the 12 district banks has a president.
3) FOMC (Federal open market committee) - BOG (7) + President of the NY Fed + 4 other presidents among the remaining district banks. These 4 voters rotate annually.



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