Chapter 14:
The monetary sector
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
CHAPTER OUTLINE
LEARNING OUTCOMES
14.1
14.2
14.3
THE FUNCTIONS OF MONEY
DIFFERENT KINDS OF MONEY
MONEY IN SOUTH AFRICA
14.4
14.5
14.6
FINANCIAL INTERMEDIARIES
THE SOUTH AFRICAN RESERVE BANK
THE DEMAND FOR MONEY
14.7
14.8
14.9
THE STOCK OF MONEY: HOW IS MONEY CREATED?
MONETARY POLICY
BANK SUPERVISION
IMPORTANT CONCEPTS
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LEARNING OUTCOMES
Once you have studied this chapter you should be able to
• describe the functions of money
• define money
• describe the main functions of the South African Reserve Bank
• explain the demand for money
• explain how money is created
• explain the basic instruments of monetary policy
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: describe the functions of money
LO: define money
14.1 THE FUNCTIONS OF MONEY
WHAT IS MONEY?
Money is anything that is generally
accepted as payment for goods and
services or that is accepted in settlement
of debt.
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: describe the functions of money
LO: define money
THE FUNCTIONS OF MONEY
The three functions of money
1
Money
Moneyas
as aamedium
medium of
ofexchange
exchange
2
Money serves as an intermediary to smooth the process of
exchangeasand
to make
it more efficient.
Money
a unit
of account
3
Money is anything that is generally acceptable in exchange for
goods and
Thevalue
alternative to using money in exchange is
Money
as services.
a store of
the direct exchange of goods for goods called barter.
What money is not
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: describe the functions of money
LO: define money
THE FUNCTIONS OF MONEY
The three functions of money
1
Money
asas
a medium
exchange
Money
a unit ofof
account
2
Money functions as an agreed measure for stating the prices of
goods as
andaservices.
Money
unit of account
3
We need a common measure of the cost of various goods and
Money
astoa be
store
services
ableof
to value
decide how best to spend our income.
What money is not
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acceptable in exchange for goods and services. The alternative to using money
f goods for goods called barter.
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: describe the functions of money
LO: define money
THE FUNCTIONS OF MONEY
The three functions of money
1
Money
asas
a medium
exchange
Money
a store
unit ofofof
account
value
2
Money serves
functions
an agreed
theexchanged
prices of
as aasstore
of valuemeasure
∵ it canfor
be stating
held and
goodsfor
and
later
goods
Money
as
aservices.
unitand
ofservices.
account
3
We need
measure
the cost
of money
variousserves
goods as
and
The
store aofcommon
value function
alsoof means
that
a
Money
astoof
a be
store
services
ableof
to value
decide how
income.
standard
deferred
payment.
Bybest
this to
wespend
meanour
that
money is the
measure of value for future payments.
What money is not
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: describe the functions of money
LO: define money
THE FUNCTIONS OF MONEY
What is not money
1
2
3
Money
asas
ais medium
exchange
Money
Money
aNOT
unit ofof
account
Money functions as an agreed measure for stating the prices of
goods
andaservices.
• Income
Money
as
unit of account
The reward earned in the production process
We need a common measure of the cost of various goods and
Money
astoa be
store
services
ableof
to value
decide how best to spend our income.
• Wealth
Consists of assets that have been accumulated over time
• A factor of production
What money is not
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: define money
14.2 DIFFERENT KINDS OF MONEY
See Box 14-1 Cheques and EFTs, debit cards and credit cards (Textbook page 258)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: define money
14.3 MONEY IN SOUTH AFRICA
Three different methods SARB use to measure the quantity of money:
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1
The conventional measure (M1)
2
M1 includes
coins and
(in (M2)
circulation outside the monetary sector) as
A broader
definition
ofnotes
money
3
well as all demand deposits (including cheque and transmission deposits) of
the
domestic
private sector
with monetary
institutions.
The
most
comprehensive
measure
of money
(M3)
Thisisdefinition
money
be written
in the form
an equality, as follows:
M2
equal toofM1
plus can
all other
short-term
and of
medium-term
C + D .....................................(14-1)
depositsMof= the
domestic private sector with monetary institutions
where M = quantity of money
C = cash
(coins
and
notes
in circulation
outside
the
monetary
sector)
M3
is
equal
to
M2
plus
all
long-term
deposits
of
the
domestic
private
M2 can D
be= defined
money plus quasi money
demand as
deposits
sector with monetary institutions.
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Regarded as best measure of developments in the monetary sector.
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
Box 14-2: More about financial intermediaries
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: describe the main functions of the South African Reserve Bank
14.5 THE SOUTH AFRICAN RESERVE BANK
The Reserve Bank is the monetary authority in South Africa and its current
functions can be grouped into the following 4 major areas of responsibility:
Three services provided by
1) Formulation and implementation of monetary
policy
the SARB:
• Banker and advisor
2) Service to the government
• Custodian of gold and
foreign exchange reserves
3) Provision of economic and statistical services
• Administration of exchange
control
4) Maintaining financial stability
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: describe the main functions of the South African Reserve Bank
The SARB regards financial
HE OUTH FRICAN
ESERVE
stability
(particularly ANK
prices
stability) as its most important
The Reserve Bank is the monetary authorityobjective.
in South Africa
and of
its this
current
In pursuit
functions can be grouped into the following 4objective
major areas
responsibility:
the of
Bank
plays a
Three
pivotal services
role in theprovided
followingby
1) Formulation and implementation of monetary
policy
the
SARB:
areas:
•• Banker
and advisor
Bank supervision
2) Service to the government
•• Custodian
of gold
and
The National
Payment
foreign
Systemexchange reserves
3) Provision of economic and statistical services
•• Administration
exchange
Banker to otherofbankers
4) Maintaining financial stability
• control
Banknotes and coins
14.5 T
S
A
R
B
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: explain the demand for money
14.6 THE DEMAND FOR MONEY
The amount of money that various participants in the economy plan to
hold in the form of money balances.
Why do households, firms and government hold money?
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
THE DEMAND FOR MONEY
LO: explain the demand for money
Motives for holding money
• Transactions motive (money as means of payment/medium of exchange)
• Speculative motive (money as an asset; store of value)
See Appendix 14-1: Keynes’s speculative demand for money
(Textbook page 272)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
THE DEMAND FOR MONEY
LO: explain the demand for money
• Summarised in table below
Table 14-1 The demand for money (or liquidity preference): a summary (Textbook page 263)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
THE DEMAND FOR MONEY
LO: explain the demand for money
Figure 14-1 The demand for money (Textbook page 265)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
THE DEMAND FOR MONEY
LO: explain the demand for money
The interest rate
The amount of interest payable over a certain period (usually a year)
expressed as a percentage of the amount borrowed. The interest rate is,
therefore, the price a borrower has to pay to enjoy the use of funds which
he or she does not own, and the return that a lender enjoys for deferring
his or her consumption or parting with liquidity. May be defined as the
price of money.
See Box 14-4 The inverse relationship between interest rates and bond prices
(Textbook page 266)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: explain how money is created
14.7 THE STOCK OF MONEY: HOW IS MONEY
CREATED?
• Money created by banks, not by mint or printing press
• - Banks create deposits (money) by granting loans
See Box 14-5 Money creation: an example (Textbook page 267)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
THE STOCK OF MONEY: HOW IS MONEY CREATED?
LO: explain how money is created
Figure 14-2 The determination of the quantity of money (Textbook page 268)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
THE STOCK OF MONEY: HOW IS MONEY CREATED?
LO: explain how money is created
Box 14-6 The traditional approach to the “supply” of money and
equilibrium in the money market (Textbook page 269)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
LO: explain the basic instruments of monetary policy
14.8 MONETARY POLICY
The measures taken by the monetary authorities to influence the
quantity of money or the rate of interest with a view to achieving stable
prices, full employment and economic growth. Monetary policy entails
the manipulation of interest rates and is conducted by the central bank.
Should be applied in harmony with fiscal policy.
• Responsibility of SARB
• Monetary Policy Committee (MPC)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
MONETARY POLICY
LO: explain the basic instruments of monetary policy
The monetary policy framework in South Africa
See Box 14-7 Inflation targeting as a framework for monetary policy
(Textbook page 270)
Main features:
• Ultimate objective (balanced and sustained economic growth)
• Intermediate objective (pre-announced inflation target)
• Operational variable (repo rate)
• Monetary control system (classical reserve system)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
MONETARY POLICY
LO: explain the basic instruments of monetary policy
The instruments of monetary policy
Key instruments:
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Accommodation
policy
Other instruments
These
include
non-market-oriented
A
system
whereby
private banks tender
Accommodation policy weekly
measures
as
credit Reserve
ceilings and
Open-market
policy
for such
South
African
Bank
deposit
rate control
(whichagreements.
were
funds
through
repurchase
the
sale orin South
purchase
of
domestic
discontinued
Africawhereby
some
time
Repos
are
the
main
means
Open-market policy
financial
assets
(mainly Treasury
bills
ago), changes
in exchange
control
banks
can obtain
funds in order
to
and
government
bonds)
by the central
regulations,
bank
intervention
in
comply
with central
their cash
reserve
bank
in exchange
order to exert
a specific
influence
foreign
markets,
public
debt
requirements.
Other instruments
on
interest rates
and
the quantity
management
and the
informal
measure of
money,
via its influence on the cash
of moral suasion.
reserves of the banks.
See Box 14-8 Repurchase agreements (REPOS) (Textbook page 271)
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ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
IMPORTANT CONCEPTS
•
•
•
•
•
•
•
•
•
•
•
•
•
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Medium of exchange
Barter economy
Unit of account
Store of value
Commodity money
Credit money
Notes and coins in
circulation
Demand deposits
Monetary aggregates
Financial intermediaries
Securities
Monetary authority
South African Reserve
Bank
• Stock (quantity) of
money
• Repurchase tender
system
• Repo rate
• Classical cash reserve
system
• Bonds
• Demand for money
• Liquidity preference
• Liquidity requirement
(shortage)
• Transactions demand
• Precautionary demand
• Speculative demand
• Active balances
ECONOMICS FOR SOUTH AFRICAN STUDENTS
CHAPTER 14: THE MONETARY SECTOR
•
•
•
•
•
•
•
•
•
•
•
Passive balances
Interest rate
Monetary policy
Monetary policy
framework
Monetary growth
targeting
Inflation targeting
Cash reserve
requirement
Accommodation
policy
Open-market policy
Interest rates and
bond prices
Bank supervision