Money and Banking & The Federal Reserve system Chapters 11 & 15 Money and Banking & The Federal Reserve system

Money in Colonial America Tobacco and wampum were once accepted forms of currency. States passed laws allowing individuals to print paper currency, which was backed in local banks with gold and silver deposits. During the American Revolution, Continental dollars were issued but without gold or silver backing, which made them virtually worthless by the end of the war.

Money in Colonial America (cont.) Specie, or gold and silver coins, were commonly used in the colonies. Because they were in limited supply, they had more value than paper currency. When money becomes too plentiful, it loses its value

Characteristics of Money Money must be portable, or easily transferred from one person to another. Money must be durable so it lasts when handled or stored for long periods. Money must be divisible to facilitate all types of transactions. Money must be in limited supply to retain its value.

Privately Issued Bank Notes A monetary standard keeps the money supply portable, durable, divisible, and limited in supply. The United States has had several standards throughout it history. Continental currency after the Revolutionary War was worthless, so Americans only trusted coins. The United States constitution gave the federal government the power to coin money and prevented the states from doing so. Private banks produced paper money.

Privately Issued Bank Notes (cont.) By 1811 the nation had about 100 state banks, which had a charter from the state governments. People could exchange the paper notes for gold or silver. Each bank had its own currency design so hundreds of different notes were in circulation. Counterfeiting became a problem. Because some currencies did not have silver or gold backing, some merchants were wary to accept all forms of currency.

The Greenback Standard To finance the Civil War, congress authorized in 1861 the printing of $60 million of demand notes. They had no silver or gold backing, but the government declared them legal tender. By 1862, Congress authorized a new federal currency. Both of these currencies were called greenbacks because of their green ink.

The Greenback Standard In 1863 the federal government issued gold certificates backed by gold, in large denominations for banks to exchange with one another. In 1886, it issued silver certificates backed by silver.

The Gold Standard In 1900, Congress passed the Gold Standard Act, making the basic currency unit, the dollar, equivalent to a specific amount of gold. It did not change the use of greenbacks or notes, but Americans could exchange them for gold whenever they wanted. The advantages of the gold standard are: (1) the security Americans felt about their money; and (2) it prevents the government from printing too much paper currency.

The Gold Standard (cont.) The disadvantages of the gold standard are: (1) the gold stock may not grow fast enough to support a growing economy; (2) people may decide to convert their paper to gold, draining the government’s gold reserves (3) the price of gold will respond to the market and it may lose substantial value (4) the political risk of failure exists. The gold standard remained in effect until the Great Depression.

The Federal Reserve System Congress responded to the call for reform with the Federal Reserve System, or the Fed, the nation’s first true central bank—a bank that lends to other banks in need. The Fed was set up like a corporation and any bank that joined the system had to purchase shares of stock in the system; as a result, privately owned banks own the Fed, not the government. The Fed, however, is publicly controlled. Structurally made up of 12 District Banks The president appoints and Congress approves the Fed’s Board of Governors and chaorman.

Other Depository Institutions (cont.) A savings and loan association invested the majority of its funds in home mortgages. They began as cooperative clubs for homebuilders. In the 1930s the Federal Home Loan Bank Board began supervising and regulating savings and loan associations. A creditor is a person or institution to whom money is owed Collateral represents property used to get a loan from a bank A credit union is a nonprofit service cooperative that is owned by and operated for the benefit of its members. Contributions are generally deducted directly from a worker’s paycheck.

The National Banking System brought uniformity to banking The National Banking System brought uniformity to banking. National banks also issued their own currency known as National Bank notes. State-chartered banks that chose not to join gave up printing currency in favor of demand deposit accounts. The Federal Reserve System (Fed) was established in 1913, giving the country a true central bank. All national banks were required to join the Fed, and all state banks were also invited to join. Despite the Fed, massive banking failures occurred during the Great Depression.

Focus Activity 2.2

Section 1-4 Introduction On December 23, 1913, Congress created the Federal Reserve System, or “Fed,” as the central bank of the United States.  Today, the Fed provides financial services to the government, regulates financial institutions, maintains the payments system, enforces consumer protection laws, and conducts monetary policy. Click the mouse button or press the Space Bar to display the information.

FDIC Federal Deposit Insurance Corporation was created during the Great Depression when depositors lost all of their savings. Was part of the Banking act of 1933 (Glass-Steagall Act) passed to strengthen the banking industry and to insure customer deposits in the event of a bank failure. Maximum coverage for an individual is $100,000 for one person at one bank

Section 1-5 The Federal Reserve System is owned by its member banks.  Structure of the Fed The Federal Reserve System is owned by its member banks.  The Board of Governors establishes policies for the Federal Reserve and member banks to follow, regulates certain operations, and controls the money supply.  The 12 Federal Reserve district banks and 25 branch banks are located near the commercial banks they serve. Click the mouse button or press the Space Bar to display the information.

How Banks Operate Liabilities- are the banks debts and obligations to others A bank’s assets are the properties, possessions, and claims on others Both are put together on a balance sheet showing all assets and liabilities Net Worth- in balance sheet- the excess of assets over liabilities, which is a measure of a business (Assets minus Liabilities) Assets that can be converted into cash in a short time is called liquidation

Other Federal Reserve Services (cont.) The Federal Reserve is responsible for issuing paper currency. The Federal Reserve is responsible for providing financial services to the federal government.

Main Idea What is the purpose of the Federal Reserve? The purpose of the Federal Reserve is to provide financial services to the government, regulate financial institutions, maintain the payments system, enforce consumer protection laws, and conduct monetary policies.

Currency Currency - The paper component of the money supply printed by the Bureau of Engraving and Printing Coins- The portion of the money supply produced by the Bureau of the Mint Every piece of paper money issued in the United States has the name of one of the 12 Federal Reserve banks on it. Most money in a region will bear the name of the closest Federal Reserve bank.

Fractional Bank Reserves The Federal Reserve requires that member banks keep a certain percentage of their deposits in the form of legal reserves. A bank’s balance sheet shows its assets, liabilities, and net worth. Balance sheets are sometimes referred to as T-accounts, because the accounts form a T when written. Every time a bank customer makes a deposit, the bank must set aside a portion of the deposit as reserves.

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