Eco 202 ch 30 the monetary system
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This document discusses key concepts related to the monetary system, including the functions of money, types of money, central banks, commercial banking, and monetary policy tools. Money serves as a medium of exchange, unit of account, and store of value. It can take the form of commodity or fiat currency. Commercial banks create money through fractional-reserve banking, using a reserve ratio and leverage to expand the money supply via the money multiplier effect. Central banks like SAMA use open market operations, interest rates, and reserve requirements to implement monetary policy and regulate the banking system.
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Eco 202 ch 30 the monetary system
- 1. Chapter 30 ! The Monetary System
- 2. Key Terms money medium of exchange unit of account store of value liquidity commodity money fiat money currency demand deposits central bank money supply monetary policy reserves fractional-reserve banking reserve ratio money multiplier bank capital leverage leverage ratio capital requirement open-market operations discount rate reserve requirements !
- 4. Barter Direct trade - stuff for stuff No money Double coincidence of wants
- 5. Both sides have to want what the other side has Double coincidence of wants
- 6. Both must want what the other has at the same time Double coincidence of wants
- 7. Money makes trade easier
- 9. Money Something people use to trade with
- 13. Why would you accept a cigarette if you didn’t smoke?
- 15. Functions of Money Medium of exchange Unit of account Store of value
- 16. Medium of Exchange Buyers give to sellers Sellers accept from buyers
- 18. Store ofValue Trading time for time Today for tomorrow Tomorrow for today Earn - Save - Spend
- 19. Liquidity How easy is it to convert something to money
- 22. Easy to carry Easy to measure Easy to verify Hard to copy
- 23. = Gold Standard Central Bank will convert paper money to gold at a fixed rate
- 24. Fiat Money No intrinsic value Declared money by government decree
- 25. Fiat Money Why do people accept fiat money? Trust that someone else will also accept it
- 26. Money Trust inscribed If people lose trust, money loses it value
- 28. Card Type Payment Credit Defer Debit Instant
- 29. Why credit and debit cards are not money Not a method of payment, but a method of making payment
- 30. Debit card is like a check Takes money out of your bank account
- 31. Credit Card Defer the payment
- 32. Demand Deposits Bank account that you can access by writing a check or using a debit card
- 34. Saudi Arabia Monetary Agency The Central Bank of Saudi Arabia SAMA sama.gov.sa
- 35. Central Bank The bank that oversees the banking system and regulates the money supply in a country
- 36. Dr. Fahad Al Mubarak ! Chairman of the Board Governor ! Saudi Arabia Monetary Agency SAMA
- 38. Six Functions • Issues national currency, the Saudi Riyal. • Acts as a banker to the government. • Supervises commercial banks. • Manages Kingdom’s foreign exchange reserves. • Conducts monetary policy for promoting price and exchange rate stability. • Promotes the growth and ensures the soundness of the financial system.
- 41. Money Supply The quantity of money available in a country.
- 42. Monetary Policy Setting the money supply by the central bank policymakers
- 43. Two Types of Banks 100 Percent Reserve Fractional Reserve
- 44. 100-Percent Reserve Bank All the deposits are kept in a safe vault. No loans
- 46. Fractional-Reserve Bank Bank only holds a fraction of the deposits as reserves Loans out the remainder
- 47. Reserve Ratio The fraction of deposits that banks hold as reserves
- 49. Bank Deposit Reserve 10% Loan Remainder 1000 100 900 900 90 810 810 81 729 • • • • • • • • • • • • Total 10,000 How does 1000 become 10,000?
- 50. Reserve Ratio Fraction Reciprocal Money Multiplier 100% 1 1÷1 1 50% 0.5 1 ÷ 0.50 2 25% 0.25 1 ÷ 0.25 4 10% 0.1 1 ÷ 0.10 10 5% 0.05 1 ÷ 0.05 20 1% 0.01 1 ÷ 0.01 100 Money multiplier is the reciprocal of the reserve ratio
- 51. Bank Capital The money the bank’s shareholders have put in to the bank
- 52. Leverage OPM Using other people’s money
- 53. Leverage 1. I have 10 2. I borrow 90 from you 3. I buy something for 100 4. I resell the item for 150 5. I pay back your 90 6. I keep the 60 7. I earned 50 profit on my 10
- 54. Leverage Ratio The ratio of assets to bank capital Assets Bank Capital
- 55. Bank Balance Sheet Assets Liabilities and Owner Equity Reserves 200 Deposits 800 Loans 700 Debt 150 Securities 100 Capital 50 Total 1000 Total 1000 Totals must balance or be equal
- 56. What is the leverage ratio? Assets Liabilities and Owner Equity Reserves 200 Deposits 950 Loans 800 Capital 50 Total 1000 Total 1000 Assets ÷ Capital 1000 ÷ 50 = 20
- 57. Leverage Ratio of 20 Owners put up 1 Depositors put up 19
- 58. Leverage is Risky! If leverage ratio is 20, 5% increase in asset value = 100% return to owners 5% decrease in asset value = 100% loss to owners
- 59. Capital Requirement Government rule on minimum amount of bank capital
- 60. Insolvent Liabilities are more than the assets You owe more than you own
- 61. Three Tools of Central Banks Open-Market Operations Discount Rate Reserve Ratio
- 62. Open-Market Operations Purchase and sale of government bonds Buy bonds increases supply Sell bonds decreases supply
- 63. Banks now have more cash to loan Central Bank Public Banks Increase Money Supply? Buy bonds for cash
- 64. Banks now have less cash to loan Central Bank Public Banks Decrease Money Supply? Sell bonds for cash
- 65. Discount Rate The rate the central bank charges to make loans to member banks Called the Official Repo Rate or ORR rate in Saudi Arabia
- 66. Official Repurchase Rate or Discount Rate 2.0% Dropped from 2.5% on January 19, 2009
- 67. SAMA Official Repo Rate Dropped from 5.5% October 2008 to 2.0% by January 2009 3 month period of global financial crisis Rate increased as economy heated up
- 68. Reserve Ratio Increase reserve ratio will reduce money multiplier Decrease reserve ratio will increase money multiplier
- 69. 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 1 2 4 6 8 10 12 14 16 18 20 Reserve Ratio Money Multiplier The Power of the Reserve Ratio to Multiply Money
- 70. Reserve Ratio Not changed very often What is the current reserve ratio in Saudi Arabia? 7% What is the Money Multiplier? 1÷7% = 14.28
- 71. Bank Deposit Insurance Protects against bank runs Moral Hazard to take more risk because government will pick up losses
- 72. The Meaning of Money Three Functions of Money Medium of Exchange Unit of Account Store ofValue Two Kinds of Money Commodity Fiat Money in the Economy Currency Demand Deposits Central Banks SAMA Banks and the Money Supply 100-Percent Reserve Banking Fractional-Reserve Banking Reserve Ratio Money Multiplier Leverage Capital Requirement Tools of Monetary Control Open-Market Operations Discount Rate - ORR Reserve Ratio Bank Runs and Deposit Insurance