chapter 14-macro
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Chapter 14 Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved 1
ECON
Designed byAmy McGuire, B-books, Ltd.
McEachern 2010-2011
14
CHAPTERMoney and the Financial System
Macro
Chapter 14 Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved 2
The Evolution of Money
LO1
No exchange No money
Specialization Exchange: Barter
Barter Double coincidence of
wants Agree on exchange rate
Chapter 14 Copyright ©2010 by South-Western, a division of Cengage Learning. All rights reserved 3
One Red Paper Clip???
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The Evolution of Money
LO1
The earliest money Good – easily traded later High degree of
acceptability Functions of money
Medium of exchange Commodity money
Unit of account Store of value
Retains purchasing power over time
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The Evolution of Money
LO1
Properties of the ideal money Durable Portable Divisible Uniform quality Low opportunity cost Relatively stable in value
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LO1
Six Properties of Ideal Money
Exhibit 1
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Coins
LO1
Coinage Amount and quality of the
metal By count
Problems Getting clipped Counterfeiting
Token money Face value > cost of coinage Seigniorage – profit from
coinage
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Money and Banking
LO1
Banks = Goldsmith Safekeeping Earn interest Checks Extend loans
Create medium of exchange, money
Public confidence Fractional reserve banking
system
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Representative Money and Fiat Money
LO1
Bank notes IOUs Paper money
As good as gold Representative money
Represented gold in the bank’s vault
Fiat money From the power of the
state Legal tender
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The Value of Money
LO1
Purchasing power of money Rate of exchange for goods and
services Higher price level in economy
Smaller purchasing power Purchasing power of $ in a year
100 ÷Price index in same year Evolution over time
Steady decline since 1960
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LO1
Purchasing Power of $1 Measured in 1982–1984 Constant DollarsExhibit 2
An increase in the price level over time reduces what $1.00 buys. The price level has risen every year since 1960, so the purchasing power of $1.00 (measured in 1982-1984 constant dollars) has fallen from $3.38 in 1960 to $0.47 in 2009.
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When Money Performs Poorly
LO1
Hyperinflation in Zimbabwe Prices grow by the hour
Not reliable store of value Exchange for stable
currency Barter
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Financial Institutions in the U.S.
LO2
Depository institutions Commercial banks
Loans to businesses Thrift institutions
Savings banks Credit unions Loans to households
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The Fed
LO3
Before 1863: State banks– Chartered by states
National Banking Act of 1863– National banks– Issue notes– Regulated
Dual banking system 19th century
– Panic ‘runs’
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The Fed
LO3
1913 Federal Reserve System– Central bank– Monetary authority– 12 Federal Reserve districts
National banks– Had to join the Fed
State banks– Voluntary membership to
the Fed
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The Twelve Federal Reserve Districts
The map shows by color the area covered by each of the 12 Federal Reserve districts. Black dots note the locations of the Federal Reserve Bank in each district. Identified with a star is the Board of Governors headquarters in Washington, D.C.
LO3
Exhibit 3
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The Fed
LO3
Powers of the Fed– Issue bank notes– Buy and sell government
securities– Extend loans to member banks– Clear checks in the banking
system– Reserve requirement for member
banks Banker’s bank
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LO4
Board of Governors– 7 members
• Appointed by the President• Confirmed by the Senate• 14-year nonrenewable term• Insulated from political pressure• 1 chair: 4 years
– Set and implement monetary policy– Oversees the 12 reserve banks
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LO4
Federal Open Market Committee FOMC– Open-market operations
• The Fed buys, sells government securities
– 7 board governors– 5 presidents of reserve banks– Advise the board
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http://www.federalreserve.gov/monetarypolicy/fomc.htm
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Organization Chart of the Federal Reserve System
Members of the Board of Governors: appointed by the president, confirmed by the Senate. Seven board members also belong to the 12-member Federal Open Market Committee, which advises the board. The Board of Governors controls the Reserve Banks in each of the 12 districts, which in turn control the US banking system.
LO4
Exhibit 4
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Regulating the money supply– Open-market operations– Discount rate– Reserve requirements
Deposit insurance– Federal Deposit Insurance
Corporation, FDIC• $250,000 per depositor per bank• 90% banksLO4
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The Panic of 1907
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Who is the Federal Reserve
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Goals– High level of employment
in economy– Economic growth– Price stability– Interest rate stability– Financial market stability– Exchange rate stability
LO4
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Before 1930s: Own corporate stock; bonds After 1930s
– Banking = heavily regulated
• Loans, government securities
• Ceiling on interest rates for deposits 1970s: Inflation
• Increase interest rates
• Withdrawals Money market mutual fund
• Limited check writingLO4
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Money market deposit accounts– $8 billion in 1978– $200 billion in 1982
Deposit insurance Unregulated interest rates Wider variety of assets Moral hazard problem
LO4
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Savings banks– Wild gambles
– Insolvency– Collapse of a growing number of banks
– 1989 what was then largest financial bailout– 3,418 in 1984– 1,220 in 2008
Credit unions– Declined 34%
LO4
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LO4
Failures of U.S. Savings Banks Peaked in 1989
Exhibit 5
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Demise of commercial banks– Risky decisions– Unsound loans– Failures, mergers, acquisitions– 14,496 in 1984– 7,085 in 2008
LO4
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Failures of U.S. Commercial Banks Peaked in 1988
LO4
Exhibit 6
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LO4
Large number of U.S. banks
– Past restrictions on bank branches Branching restrictions
– Inefficiencies
– Bank failures (Great Depression) Bank holding company
– Owns several banks
– Offers other services Bank mergers
– Expand geographically
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Number of Commercial Banks Declined over the Last Two Decades, but the Number of
Branches Continues to Grow
LO4
Exhibit 7
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LO4
U.S. banks– Domestic deposits– Mergers and acquisitions– National banks
Worldwide assets– No U.S. bank
• J.P. Morgan Chase, Bank of America, and Citibank were 13th through 15th, respectively.
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Largest U.S. Banks Based on Total Domestic Deposits
LO4
Exhibit 8(a)
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World’s Largest Banks Based on Total Assets
LO4
Exhibit 8(b)
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