Final Exam
Exam Date: May 6, 2006
 Exam Time: 2:00-4:00pm
 Room: Terrill Hall 121

Request to Reschedule Final Exam
Taking both 1100 and 1110
 3 or more finals scheduled for that day
 Religious reasons
 Other? (appropriate documentation)
 All requests must be submitted to Kari
Battaglia, by Monday, May 1st

NATURE OF MONEY
widely acceptable in exchange for goods
and services
 acceptable as payment for debts

MONEY vs. BARTER

Money is more efficient than barter because
it
– decreases transaction time
– increases the number of transactions
 Exchange is easier and less time-consuming in
a money economy
PHYSICAL
CHARACTERISTICS
OF MONEY
portable
 divisible
 Recognizable

 Money is any good that is widely accepted for
purposes of exchange
WHAT GIVES MONEY
VALUE?
no longer backed by gold
 “fiat money” backed by the government
 value lies in peoples trust in the government
and their willingness to accept it for G & S.

Three Functions of Money

Medium of exchange
 money is the medium through which exchange
occurs

Unit of account
 a common measure in which values are
expressed

Store of value
 ability to maintain its value over time
Three Functions of Money (cont.)
 A pizza
maker lists the price of pizza
as $10
 A $50 traveler’s check
 A $10 food stamp
 A vacation home in the Caribbean
M1
NARROWLY DEFINED
MONEY
currency
 checkable deposits
 traveler’s checks

CURRENCY
coins and bills
 currency in circulation and currency held
outside the bank are equivalent

CHECKABLE DEPOSITS
all checkable deposits whether at a bank,
savings and loan, or credit union.
 also called transactions accounts and
demand deposits
 debit cards that draw directly from your
account are included

Exhibit 1 The Components of M1
SOURCE: Board of Governors of the Federal Reserve System.
MONEY SUPPLY
checkable deposits are the largest
component of M1 (almost 70%)
 the term Money Supply refers to M1 unless
otherwise noted

M2
BROADLY DEFINED MONEY
M1
 small time deposits
 savings deposits
 money market deposit accounts (MMDA)
 money market mutual fund (MMMF)

M3 and L

M3 and L add less liquid assets such as
– large time deposits (M3)
– bankers acceptances (L)
Money supply measures, April 2002
_Symbol Assets included
C
Amount (billions)_
Currency
$598.7
M1
C + demand deposits,
travelers’ checks,
other checkable deposits
1174.0
M2
M1 + small time deposits,
savings deposits,
money market mutual funds,
money market deposit accounts
5480.1
M3
M2 + large time deposits,
repurchase agreements,
institutional money market
mutual fund balances
8054.4
CREDIT CARDS
Credit cards are NOT money
 Credit cards are short term loans - you
borrow from the bank and then must repay
that loan.
 The existing money is shifted around but
Ms does not change

100-PERCENT-RESERVE
BANKING
All deposits are held as reserves
 Banks accept deposits, place the money in
reserve, and leave the money there until the
depositor makes a withdrawal

FRACTIONAL RESERVE
BANKING
Banks are not required to keep every dollar
that you deposit on reserve.
 The Federal Reserve sets the required
reserve ratio which determines the
percentage of deposits that must be held.

BANK RESERVES
TOTAL RESERVES - cash in the vault and
bank deposits at the Fed.
 REQUIRED RESERVES - total deposits X
required reserve ratio
 EXCESS RESERVES - total reserves required reserves

Examples



Calculate required reserves (RR) when total
deposits are $80,000 and the required-reserve ratio
is r = 20%
What is the required-reserve ratio if banks are
required to hold $100 in reserves to support $500
in deposits?
Calculate deposits if required reserves are $150
and the required-reserve ratio is r = 20%
Examples
What are excess reserves if $40 of the $100
in total reserves held by banks are required
reserves?
 How much do banks have in excess reserves
if total reserves are $400, deposits are
$2,000 and the required-reserve ratio is
20%?

BANK ACTIVITIES
Banks accept deposits and offer checking
services
 Banks keep a percentage of the deposits on
reserve
 Excess reserves are available to be loaned
out
 Banks earn money from loans

Exhibit 3 The Money Supply Expansion and
Contraction Processes
T - Accounts
BANK TWO
Assets
Liabilities
Total Reserves Demand Deposits
Loans
MONEY EXPANSION
When banks make loans they create money
 When the loans are spent, it finds its way
into other banks.
 These banks keep a portion of these
deposits on reserve and then loan the rest
out.

BANK TWO
r = .10
Assets
Liabilities
Reserves
100
Loans
900
Demand Deposits
1,000
BANK TWO
r = .10
(fully loaned up)
Assets
Liabilities
Reserves
RR
ER
100
100
0
Loans
900
Demand Deposits
1,000
BANK TWO
r = .10
Assets
Liabilities
Reserves
RR
ER
200
100
100
Loans
800
Demand Deposits
1,000
(1)
BANK
(2)
NEW DEPOSITS
(new reserves)
A
$1,000.00
B
900.00
90.00
810.00
C
810.00
81.00
729.00
D
729.00
72.90
656.10
E
656.10
65.61
590.49
.
.
.
.
.
.
.
.
.
.
.
.
TOTALS (rounded) $10,000
(3)
(4)
NEW REQUIRED CHECKABLE DEPOSITS CREATED
RESERVES
BY EXTENDING NEW LOANS
(equal to new excess reserves)
$100.00
$900.00
$1,000
$9,000
Examples

By how much can the banking system
expand deposits if total reserves are $600,
deposits are $2,500 and the required-reserve
ratio is 20%?
Money Expansion
When banks make loans they increase the
money supply (M1)
 The maximum change in checkable deposits
is ( 1/r x change in reserves )
 simple deposit creation multiplier = 1/r
 Reasons actual creation may be less than the
maximum

– cash leakages
– nonzero excess reserves
SIMPLE DEPOSIT
MULTIPLIER
If r = .10 then the simple deposit multiplier
is 10
 If r = .15 then the simple deposit multiplier
is 6.67
 If r = .20 then the simple deposit multiplier
is 5

MONEY DESTRUCTION
contractionary policy
The FED can also choose to remove money
from the economy
 When the FED reduces the amount of
money in circulation this impacts banks
 as bank deposits fall, banks are forced to
reduce the amount of loans (call in loans)
 The decrease in loans reduces the money
supply
