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Chapter 2. Money & the PaymentsSystem

meaning of money

functions of money

forms of money measuring money

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I. The Meaning of Money

anything commonly excepted

in exchange for goods/services

many objects throughout history

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examples

livestock

metals

cigarettes

grain

shells

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money, income, & wealth

money

what is accepted as payment

income earnings during time period (year)

wealth

accumulated assets at pt. in time

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money, wealth are STOCKS

amount at a point in time

income is a FLOW amount during a time period

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examples

I own $2 million in diamonds. period.

I am wealthy

I have no money

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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

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software engineer

earnings $100,000/yr

blows it all, every paycheck

high income no wealth

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II. Functions of Money

money is a means of payments

(medium of exchange)

-- accepted as payment for

goods and services

-- main function of money

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without money,

barter for stuff-- need double coincidence

of wants-- inefficient:

more time shopping,

less time producing

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example

I have exam 2,

want to trade it for soda

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You have to want the exam &

be willing to give up sodaAND

I have to want the soda

& be willing to give up exam

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double coincidence of wants

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to act as money, must be

measurable

divisible

widely accepted durable

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money is a unit of account

-- money is used tomeasure value

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if something costs $5,

not that valuable

if something costs $500,

thats valuable

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money is a store of value

--use money to save,accumulate wealth,

buy stuff later

-- money is liquid asset

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money is NOT always

a good store of value

-- political instability

-- poor economy-- high inflation

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example

Historically, the dollar has beena good store of value

70% of U.S. currency is heldoutside the U.S

but if $ continues to fall, this

could change

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III. Forms of Money

commodity money

has its own value as a good-- gold & silver coins

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fiat money

-- no value other than

fact that its acceptedin exchange for

goods and services

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U.S. money is fiat

money!

NOT backed by gold since 1934 coins do not contain silver

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fiat money is more efficient

commodity money has

opportunity cost:

you could use it

for something else

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debit or credit cards?

NOT money

payment mechanisms that access

money

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IV. Measuring Money

Money aggregates

amount of cash

BUT

other forms of money too

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M1

= currency in circulation

+ demand deposits

+ checkable deposits

+ travelers checks

$1.4 trillion

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M2

= M1

+ savings deposits

+ small time deposits+ retail money market deposits

$7.3 trillion

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Comparing measures

get larger

M1 < M2

add less liquid assets to largermeasures

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Components of M1

1%

23%

28%

48%

currency

traveler's checks

demand deposits

other checkable

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Components of M2M1

22%

small CDs

20%savings

39%

money

market

19%

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Which measure is best?

move together in general

BUT behavior can vary in short-term

M2 most watched

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Growth Rates in Monetary Aggregates

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Money Growth and Inflation