1. Fixing an Economy: Monetary Policy
Monetary Policy & Federal Reserve
Fixing an Economy: Monetary Policy
Federal Reserve, Money Supply, and Banking
CHAPTERS 16 & 17

2. WHAT MAKES MONEY, MONEY?
Since we are talking about Monetary policy, we should make sure we understand why money is important.
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3. Monetary Policy & Federal Reserve
WHAT MAKES MONEY, MONEY?
History of US currency
For centuries currency has been in the form of precious metals (gold, silver, copper)
US currency was based on gold until 1973 President Nixon abolished the gold standard since no additional currency could be printed for a growing economy if that currency is based on a fixed commodity (product).
So what backs the value of the currency in this country…
Faith!
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4. The 2 Categories of Money
WHAT MAKES MONEY, MONEY?
The 2 Categories of Money
Fiat Money (representative money) is used as money because of government decree.
It does not have intrinsic value.
Examples: Present day coins, paper currency, check deposits, credit cards.
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5. The 2 Categories of Money
Monetary Policy & Federal Reserve
WHAT MAKES MONEY, MONEY?
The 2 Categories of Money
Commodity Money takes the form of a product with intrinsic value.
The material ITSELF has value!
Examples: Gold, silver, cigarettes.
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6. Monetary Policy & Federal Reserve
WHAT MAKES MONEY, MONEY?
Money has to have three functions in the economy:
Medium of Exchange
Unit of Account
Store of Value
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7. Monetary Policy & Federal Reserve
3 FUNCTIONS OF MONEY
Monetary Policy & Federal Reserve
1.) Medium of Exchange
A medium of exchange is anything that is acceptable as payment for goods and services.
IN EXCHANGE FOR
A GOOD OR SERVICE OR
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8. Monetary Policy & Federal Reserve
3 FUNCTIONS OF MONEY
Monetary Policy & Federal Reserve
2.) Unit of Account
A unit of account is the yardstick people use to post prices, record debts, and compare values.
We use it to COMPARE the value of two or more goods
EXAMPLE: Measuring the WORTH of your chores
DUTY
$ WORTH
TRADE VALUE
CUT THE YARD
$40.00
Video Game
CUT THE YARD + WASH & WAX THE CAR
$100.00
Video Game + Clothes
CUT THE YARD, WASH & WAX THE CAR, & CLEAN THE WHOLE HOUSE
$300.00
XBOX 360
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9. Monetary Policy & Federal Reserve
3 FUNCTIONS OF MONEY
3.) Store of Value
A store of value is an item that people can use to transfer purchasing power from the present to the future.
IT WILL HOLD VALUE. SO THAT IT CAN BE USED SOMETIME LATER.
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10. Monetary Policy & Federal Reserve
The Federal Reserve
The Federal Reserve (Fed) serves as the nation’s central bank.
Regulates Banks Practices to ensure they follow federal laws intended to promote safe and sound banking practices.
Acts as a Banker’s Bank, making loans to banks and as a lender of last resort.
Conducts Monetary policy by controlling the money supplied to the public. $ $ $ $ $
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11. The Federal Reserve and some clarification!
Monetary Policy & Federal Reserve
The Federal Reserve and some clarification!
Monetary Policy:
IS NOT PRINTING MONEY
The Federal Reserve is NOT responsible for printing money!
Federal Reserve
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12. The Fed’s Organization
Monetary Policy & Federal Reserve
The Fed’s Organization
The Fed is run by a Board of Governors, which has seven members appointed by the President and confirmed by the Senate.
Among the seven members, the most important is the chairman (Ben Bernanke)
The chairman directs the Fed staff, presides over board meetings, and testifies about Fed policy in front of Congressional Committees.
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13. The Federal Reserve System
Monetary Policy & Federal Reserve
The Federal Reserve System
The Structure of the Federal Reserve System:
The primary elements in the Federal Reserve System are:
1) The Board of Governors (7 members)
2) The 12 Regional Federal Reserve Banks
3) The Federal Open-Market Committee
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14. The 12 Federal Reserve Banks
Monetary Policy & Federal Reserve
The 12 Federal Reserve Banks
Since each district has different money needs the various branches deal with each region independently.

15. What is Monetary Policy?
Monetary Policy & Federal Reserve
What is Monetary Policy?
Monetary Policy:
Controlling the economy through increasing or decreasing the money supply.
Two Types of Monetary strategy:
Tight Money: taking money out of the economy (decrease money supply)
Easy Money: putting more money in the economy (increase money supply)
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16. Fed’s Tools of Monetary Control
Monetary Policy & Federal Reserve
Fed’s Tools of Monetary Control
The Fed has 3 “tools” in its monetary toolbox:
Open-Market Operations (buying & selling government securities)
Changing the Reserve Requirement
Changing the Discount Rate
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17. Monetary Policy & Federal Reserve
Monetary Policy Tools
REGULATING THE MONEY SUPPLY THROUGH BUYING/SELLING BONDS 1. OPEN-MARKET OPERATIONS
The money supply is the quantity of money available in the economy.
The primary way in which the Fed changes the money supply is through open-market operations.
The Fed BUYS and SELLS U.S. Government Bonds and/or other U.S. Securities
Let’s look at a graphic example…
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18. GOVERNMENT SECURITIES Consumers, Banks, Businesses & Countries
Monetary Policy Tools
REGULATING THE MONEY SUPPLY THROUGH BUYING/SELLING US SECURITIES 1. OPEN-MARKET OPERATIONS
MONEY SUPPLY =
INCOME, INFLATION & GDP =
INTEREST RATES =
Federal Reserve
SELLS
GOVERNMENT SECURITIES
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Consumers, Banks, Businesses & Countries

19. GOVERNMENT SECURITIES Consumers, Banks, Businesses & Countries
Monetary Policy Tools
REGULATING THE MONEY SUPPLY THROUGH BUYING/SELLING US SECURITIES 1. OPEN-MARKET OPERATIONS
MONEY SUPPLY =
INCOME, INFLATION & GDP =
INTEREST RATES =
Federal Reserve
BUYS (back)
GOVERNMENT SECURITIES
SWS © 2009
Consumers, Banks, Businesses & Countries

20. CONTROLLING THE MONEY SUPPLY THROUGH BANKS 2. THE RESERVE REQUIREMENT
Monetary Policy & Federal Reserve
Monetary Policy Tools
CONTROLLING THE MONEY SUPPLY THROUGH BANKS 2. THE RESERVE REQUIREMENT
Reserves are deposits that banks have received but have not loaned out.
In the U.S. we have a fractional reserve banking system:
banks hold a fraction of the money deposited as reserves and lend out the rest.
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21. Monetary Policy & Federal Reserve
Monetary Policy Tools
CONTROLLING THE MONEY SUPPLY THROUGH BANKS 2. THE RESERVE REQUIREMENT
The money supply in America is affected by the amount deposited in banks and the amount that banks loan out.
The fraction of total deposits that a bank has to keep as reserves is called the reserve requirement ratio.
Put another way, the reserve requirement is the amount (%) of a bank’s total reserves that may not be loaned out.
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22. Peak: increase the reserve
requirement in order to stop
banks from lending so much.
This stops $ entering economy.
Trough: decrease reserve
requirement in order to have
banks lend more to stimulate
economy. This allows $ to enter
economy.

23. Changing the Discount Rate
Monetary Policy & Federal Reserve
Monetary Policy Tools
CONTROLLING MONEY SUPPLY THROUGH THE INTEREST RATE 3. THE DISCOUNT RATE
Changing the Discount Rate
The Discount Rate is the interest rate the Fed charges banks for loans.
Increasing the discount rate decreases the money supply (peak).
Decreasing the discount rate increases the money supply (trough).
Basically, if the Federal Reserve charges banks more interest to borrow money then the banks have to charge higher interest on all loans.

24. Monetary Policy Tools REVIEW: TOOLS OF MONETARY POLICY
Open-Market Operations
The Reserve Ratio
The Discount Rate
What will happen to the money supply in the following situations?
Examples:
Buy securities
Increase Reserve Ratio
Raise Discount Rate
Sell Securities
Decrease Reserve Ratio
Lower Discount Rate
MONEY DECREASES
MONEY INCREASES
MONEY DECREASES
MONEY INCREASES
MONEY DECREASES
MONEY INCREASES

25. Monetary Policy Tools Open-Market Operations The Reserve Requirement
The Discount Rate
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26. Fiscal Policy Tools Taxes Government Spending Transfer Payments
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27. END CHAPTERS 16 & 17 MONETARY POLICY, FEDERAL RESERVE & MONEY
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