Chapter 2. Money & the Payments System meaning of money functions of money forms of money measuring money meaning of money functions of money forms of money measuring money

I. The Meaning of Money anything commonly excepted in exchange for goods/services many objects throughout history anything commonly excepted in exchange for goods/services many objects throughout history

examplesexamples livestock metals cigarettes grain shells livestock metals cigarettes grain shells

money, income, & wealth money what is accepted as payment income earnings during time period (year) wealth accumulated assets at pt. in time money what is accepted as payment income earnings during time period (year) wealth accumulated assets at pt. in time

money, wealth are STOCKS amount at a point in time income is a FLOW amount during a time period money, wealth are STOCKS amount at a point in time income is a FLOW amount during a time period

examplesexamples I own $2 million in diamonds. period. I am wealthy I have no money I own $2 million in diamonds. period. I am wealthy I have no money

I win $25 million in lottery I put it under my bed I quit my job I am weathly I have a lot of money my income is zero I win $25 million in lottery I put it under my bed I quit my job I am weathly I have a lot of money my income is zero

software engineer earnings $100,000/yr blows it all, every paycheck high income no wealth software engineer earnings $100,000/yr blows it all, every paycheck high income no wealth

II. Functions of Money money is a means of payments (medium of exchange) -- accepted as payment for goods and services -- main function of money money is a means of payments (medium of exchange) -- accepted as payment for goods and services -- main function of money

without money, barter for stuff -- need double coincidence of wants -- inefficient: more time shopping, less time producing barter for stuff -- need double coincidence of wants -- inefficient: more time shopping, less time producing

exampleexample I have exam 2, want to trade it for soda I have exam 2, want to trade it for soda

You have to want the exam & be willing to give up soda AND I have to want the soda & be willing to give up exam You have to want the exam & be willing to give up soda AND I have to want the soda & be willing to give up exam

double coincidence of wants

to act as money, must be measurable divisible widely accepted durable measurable divisible widely accepted durable

money is a unit of account -- money is used to measure value money is a unit of account -- money is used to measure value

if something costs $5, not that valuable if something costs $500, thats valuable if something costs $5, not that valuable if something costs $500, thats valuable

money is a store of value -- use money to save, accumulate wealth, buy stuff later -- money is liquid asset money is a store of value -- use money to save, accumulate wealth, buy stuff later -- money is liquid asset

money is NOT always a good store of value -- political instability -- poor economy -- high inflation money is NOT always a good store of value -- political instability -- poor economy -- high inflation

exampleexample Historically, the dollar has been a good store of value 70% of U.S. currency is held outside the U.S but if $ continues to fall, this could change… Historically, the dollar has been a good store of value 70% of U.S. currency is held outside the U.S but if $ continues to fall, this could change…

III. Forms of Money commodity money has its own value as a good -- gold & silver coins commodity money has its own value as a good -- gold & silver coins

fiat money -- no value other than fact that its accepted in exchange for goods and services fiat money -- no value other than fact that its accepted in exchange for goods and services

U.S. money is fiat money! NOT backed by gold since 1934 coins do not contain silver NOT backed by gold since 1934 coins do not contain silver

fiat money is more efficient commodity money has opportunity cost: you could use it for something else commodity money has opportunity cost: you could use it for something else

debit or credit cards? NOT money payment mechanisms that access money NOT money payment mechanisms that access money

IV. Measuring Money Money aggregates amount of cash BUT other forms of money too Money aggregates amount of cash BUT other forms of money too

M1M1 = currency in circulation + demand deposits + checkable deposits + travelers checks $1.4 trillion = currency in circulation + demand deposits + checkable deposits + travelers checks $1.4 trillion

M2M2 = M1 + savings deposits + small time deposits + retail money market deposits $7.3 trillion = M1 + savings deposits + small time deposits + retail money market deposits $7.3 trillion

Comparing measures get larger M1 < M2 add less liquid assets to larger measures get larger M1 < M2 add less liquid assets to larger measures

Which measure is best? move together in general BUT behavior can vary in short-term M2 most watched move together in general BUT behavior can vary in short-term M2 most watched

Growth Rates in Monetary Aggregates

Money Growth and Inflation