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1. What Is Money?
Questions:
1. What is a liquid asset?
Relate to the two definitions of money.
Income and Wealth
Individual incomes are usually paid in the form of money, but income is
not the same thing as money. Income is what an individual earns during a
specified period of time in exchange for his contributions towards the
production of goods and services. Wages, interest, profit, and rent are all
forms of income. Aggregate income is the total value of the final goods and
services produced during a specific period of time. Gross Domestic Product
(GDP) is a measure of aggregate income. Aggregate income is measured in terms
of money, but it is not money.
Wealth is net worth: assets minus liabilities. Money is an asset, but
so is real estate, stock, bonds, automobiles, gold, paintings, and diamonds.
Liabilities are debts. Assets and liabilities are valued in terms of money.
For an individual, wealth is value of his assets minus the value of his
liabilities at a specific point in time. Aggregate wealth is the value of all
the real assets: the buildings, machinery, equipment, land, gold, and
diamonds at a specific point in time.
Wealth is measured in terms of money,
but it is not money.
Money is the Means of Exchange
The best definition of money is the set of assets that are generally
accepted in exchange. Goods exchange for money and money exchanges for goods.
The means of exchange includes currency and checkable deposits. Currency is
made up of coins and Federal Reserve notes. It is created and destroyed by
the government. Checkable deposits are funds that individuals and firms loan
to banks in return for deposits. Checkable deposits are created and destroyed
by the banks. Checkable deposits include travelers checks. These are
obligations of the firms that issue the checks. The Federal Reserve measures
the means of exchange using the M1 measure of the money stock.
Money as Liquid Assets
Some economists point out that liquid assets are close substitutes for
money. A liquid asset can be sold at short notice at an unknown future time
and at a known nominal price. In other words, it can easily be turned into the
means of exchange. Some economists define money as the means of exchange and
all other highly liquid assets. Savings accounts are an example of a highly
liquid asset. The Federal Reserve uses M2 as a measure of this more inclusive
definition of the money supply. It includes savings accounts, noninstituional
money market mutual funds, and small (under 100k) certificates of deposit in
this M2 measure.
The M3 measure of the money supply adds eurodollar
accounts and repurchase aggreements, and institutional (over $50,000) money
market funds.
Finally, MZM adds institutional money market funds to M2, but
takes away all time deposits (C.D.s).