SAVINGS, INVESTMENT, AND
THE FINANCIAL SYSTEM
Modules 22 & 23
The Financial Sector

Economic Growth and Investment Spending
 Two
instruments of growth:
 Human
capital – public education, universities, experience
 Physical capital – public, but mostly private industry
 How
do we pay for this investment spending?
 Savings-investment


spending identity
Savings = investment…always
Economics fact: all money saved is invested
The Financial Sector

Financing money – obtaining loans, borrowing funds
 Gov’t
and private firms borrow
 Surpluses
 Interest
and deficits (gov’t)
rate – the price of borrowing money
 Today’s
avg. home rate = 4.37% (30 yr), 3.39% (15 yr)
 Today’s avg. car = 2.57%, student = 4.66%
 So if you buy a house for $300,000, you’re actually paying
$313,110
The Financial Sector

Savings: Who is saving?
 Households
– private savings
 Gov’t
 Budget
surplus –or– exceeding revenue = deficit (dissaving)
 National
Savings = private savings + budget balance
 Capital inflow/outflow – foreign savings, spending in the
US from people in other nations
 Concept
from the formation of a truly global economy
 Can be +/

2012: inflow of $800 billion
This has continued to climb
The Financial Sector

Savings from
capital inflow
is not the
same as
national
savings
The Financial Sector

Recent Numbers
 Gov’t
deficit
-
$474 Billion (according to useconomy.com)
 Spending: $3,999 trillion with a revenue of $3,525 trillion
 Lowest deficit since the
recession
 Capital
Inflow/Outflow
balance
 -$110.3
B
(tradingeconomics.com)
The Financial Sector

The Financial System
 Markets
where households can invest wealth, by purchasing
financial assets
 Financial


Paper claim that entitles buyer to future income from the seller
Bonds, stocks, and bank deposits
 Physical


assets
assets
Pre-existing house, equipment
Can use as you wish (rent, sell, etc)
 Liability

A future payment (ex. Loan)
The Financial Sector

Three tasks of the financial system
 Reduce
 Ex
transaction costs
– business wants a $1 billion loan
 Reduce
 Most
risk
individuals are risk-averse
 Financial systems reduce exposure to risk
 Diversification – invest in multiple areas, business, limits risk
and still allows full investment of funds
Liquid assets – money is the most liquid, it’s the reason why every spy has a
crap ton of money in their go bag…
https://www.youtube.com/watch?v=txHNcE_d7ro
The Financial Sector

Provide liquidity
 Cash
is the most liquid form of
exchange
 Liquidity means flexibility and
speed
 Liquid
Assets – can be sold quickly to
attain cash
 Illiquid Assets – can not sell quickly
 Financial
markets provide liquidity
for business (through loans, etc) and
cash for investors on demand,
through the sale of financial assets
The Financial Sector

Financial assets
 Book
examples: loans bonds, loan-backed securities, stocks
 Why




did Facebook go public?
Traded on stock market – prestige
Safer for employees – they can start to cash out their shares to cash in on
the money they wanted when they started the company
SEC rule – If you have more than 500 “shareholders of record” you have
to adhere to the same financial disclosure as public companies
 All the burdens with none of the perks
Financial intermediaries
 Transform
funds from many different individuals into financial
assets
 Mutual

funds, pensions, life insurance, and banks
Ex: banks – deposits turned into loans
CURRENCY AND THE
CONCEPT OF MONEY
Module 23
Settlers of the classroom

In your teams, you each have a number of goods that you
produce each turn, your goal is to produce the most homes,
businesses, and markets as you can by the end of 5 rounds
of the game
 Home
= 2 wood, 2 brick
 Business = 2 wood, 2 brick, 1 sheep, 1 wheat, 1 fish
 Market = 3 wood, 3 brick, 2 sheep OR 2 wheat OR 2 fish

For each round, your team gets more of the resources that
are on the sheets as well as additional materials and you
have to decide what you are going to build
 You
may also trade for each of your turns, if you feel the need
to do so
Stalag 17 currency
http://www.criticalcommons.org/Members/AdrianFohr/clips/the-uses-ofcigarettes-in-stalag-17/view
The Financial Sector

What is Money?
 An
asset that can be easily used to purchase goods (def:
liquid)
 Currency in circulation, checkable bank deposits, traveler’s
checks = money
 Creates gains from trade because it makes indirect exchange
possible
 Roles of Money
 Medium
of exchange – trade for goods and services
 Store of value – holds purchase power over time
 Unit of account - measurement
The Financial Sector

Types of Money
 Commodity
Money
A
good used for exchange
 Ex: gold and silver
 Commodity
– Backed Money
 No
intrinsic value for the money, BUT value was guaranteed by the
fact money could be converted into a commodity
 Fiat
Money
 Value
derives
The Financial Sector

Measuring Money
 Money
Aggregates
 Measures
 M1
the money supply
(“Monetary base”) and M2
 M1
– measures only money in circulation and demand deposits
(checking)
 M2 – M1 + “near-moneys”

Ex: not quite liquid (savings accounts, CDs)
 Today’s
 $2.85
 Today’s
M1 number:
trillion
M2 number:
 $11.473
trillion
The Financial Sector

Time value of money and finance
 Borrowing,
 Present
lending, and interest
and future value