1. What would you do with $5,000? Be specific. 2. What percentage of taxes should the government take? 3. Where is the safest place to keep your money? 4. Where would you invest your money? 5. What are you planning to do after you graduate?

 Introduction to the study of money, banking and financial markets  The importance of studying money, banking, and financial markets  Overview of the financial system  Define money and how it is measured

CHAPTER 1 Why Study Money, Banking, and Financial Markets?

 The financial system: is complex and comprises many different types of private sector financial institutions.  Banks, insurance companies, mutual funds, finance companies, and investment banks.  All entities are heavily regulated by multiple government agencies.  Financial markets: markets in which funds are transferred from people and firms who have excess available funds to people and firms seeking funds.

 Financial intermediaries : institutions that borrow funds from people who have saved and in turn make loans to other people.  Banks : accept deposits and make loans  Other financial institutions: insurance companies, finance companies, pension funds, mutual funds and investment companies  Financial innovation : the development of new financial products and services important for making the financial system more efficient

 Money: any item or verifiable record generally accepted as payment for goods or services. The main functions of money are: Medium of exchange, unit of account, store of value, or standard deferred payment.  Inflation: rate at which the level of prices for goods and services is rising and, consequently, the purchasing power of currency is falling. Central banks attempt to limit inflation, and avoid deflation, in order to keep the economy running smoothly.

 Security (financial instrument): a claim on the issuer’s future income or assets.  Bond: a debt security contractual payments periodically for a specified period of time.  Interest rate: the cost of borrowing or the price paid for the use of funds.

 Common stock represents a share of ownership in a corporation and is traded on the open market. Owners earn a dividend from the corporation’s profits.  Preferred stock represent shares in a corporation with a higher claim on its assets and earnings than common stock. Preferred shares have a fixed dividend that must be paid before common shareholders.

Source: Federal Reserve Bank of St. Louis, FRED database: The Dow Jones Industrial Average is a price-weighted average of 30 significant stocks traded on the New York Stock Exchange and the Nasdaq.

 Financial crises : major disruptions in financial markets that are characterized by sharp declines in asset prices and the failures of many financial and nonfinancial firms.

 Monetary policy is the management of the money supply and interest rates  Conducted in the U.S. by the Federal Reserve System (Fed)  Fiscal policy deals with government spending and taxation  Budget deficit is the excess of expenditures over revenues for a particular year  Budget surplus is the excess of revenues over expenditures for a particular year  Any deficit must be financed by borrowing

 Gross domestic product (GDP): the market value of all final goods and services produced in a country during the course of a year.  Aggregate income: the total income of factors of production (land, labor, and capital) from producing goods and services in the economy during the course of the year.

 GDP Deficit : government spending exceeds revenue.  Surplus: government profit exceeds spending.

 Financial markets are integrated throughout the world.  The international financial system has tremendous impact on domestic economies:  A country’s choice of exchange rate policy affects its monetary policy.  Capital controls impact domestic financial systems and, therefore, the performance of the economy.  International financial institutions affect the IMF. The International Monetary Fund (IMF) is an organization of 188 countries which fosters global cooperation, secures financial stability, facilitates international trade, sustains economic growth, and reduces poverty around the world.

 The foreign exchange market : where funds are converted from one currency into another.  The foreign exchange rate: the price of one currency in terms of another currency, determined by the foreign exchange market.