1. (Fiat Money) Most economists believe that the better fiat money serves as a s
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Question
1. (Fiat Money) Most economists believe that the better fiat money serves as a store of value, the more acceptable it is. What does this statement mean? How could people lose faith in money?
2. (The Value of Money) When the value of money was based on its gold content, new discoveries of gold were frequently followed by periods of inflation. Explain.
3. (Depository Institutions) What is a depository institution, and what types of depository institutions are found in the United States? How do they act as intermediaries between savers and borrowers? Why do they play this role?
4. (Federal Reserve System) What are the main powers and responsibilities of the Federal Reserve System?
5. (Bank Deregulation) Some economists argue that deregulating the interest rates that could be paid on deposits combined with deposit insurance led to the insolvency of many depository institutions. On what basis do they make such an argument?
6. (Barter) Define a double coincidence of wants and explain its role in a barter system.
7. (Money Versus Barter) “Without money, everything would be more expensive.” Explain this statement. Then take a look at a Web page devoted to barter athttp://www.ex.ac.uk/~RDavies/arian/barter.html What are some current developments in barter exchange?
8. (Functions of Money) What are the three important functions of money? Define each of them.
9. (Functions of Money) “If an economy had only two goods (both nondurable), there would be no need for money because exchange would always be between those two goods.” What important function of money does this statement disregard?
10. (Commodity Money) Early in U.S. history, tobacco was used as money. If you were a tobacco farmer and had two loads of tobacco that were of different qualities, which would you supply as money and which would you supply for smoking? Under what conditions would you use both types of tobacco for money?
11. (Monetary Aggregates) Calculate M1 and M2 using the following information: Large-denomination time deposits $ 304 billion Currency and coin held by nonbanking public 438 billion Checkable deposits 509 billion Small-denomination time deposits 198 billion Traveler’s checks 18 billion Savings deposits 326 billion Money market mutual fund accounts 637 billion
12. (Reserve Accounts) Suppose that a bank’s customer deposits $4,000 in her checking account. The required reserve ratio is 0.25. What are the required reserves on this new deposit? What is the largest loan that the bank can make on the basis of the new deposit? If the bank chooses to hold reserves of $3,000 on the new deposit, what are the excess reserves on the deposit?
13. (Money Multiplier) Suppose that the Federal Reserve lowers the required reserve ratio from 0.10 to 0.05. How does this affect the simple money multiplier, assuming that excess reserves are held to zero and there are no currency leakages? What are the money multipliers for required reserve ratios of 0.15 and 0.20?
14. (Money Creation) Show how each of the following would initially affect a bank’s assets and liabilities. a. Someone makes a $10,000 deposit into a checking account. b. A bank makes a loan of $1,000 by establishing a checking account for $1,000. c. The loan described in part (b) is spent. d. A bank must write off a loan because the borrower defaults.
15. (Money Creation) Show how each of the following initially affects bank assets, liabilities, and reserves. Do not include the results of bank behavior resulting from the Fed’s actions. Assume a required reserve ratio of 0.05. a. The Fed purchases $10 million worth of U.S. government bonds from a bank. b. The Fed loans $5 million to a bank. c. The Fed raises the required reserve ratio to 0.10.
16. (Monetary Control) Suppose the money supply is currently $500 billion and the Fed wishes to increase it by $100 billion. a. Given a required reserve ratio of 0.25, what should it do? b. If it decided to change the money supply by changing the required reserve ratio, what change should it make?
17. (Money Aggregates) What portion of U.S. Federal Reserve notes circulate outside the United States? How does this affect the United States?
18. (Creating Money) Often it is claimed that banks create money by making loans. How can commercial banks create money? Is the government the only institution that can legally create money?
19. (Monetary Policy and an Expansionary Gap) Suppose the Fed wishes to use monetary policy to close an expansionary gap. Should the Fed increase or decrease the money supply? If the Fed uses open-market operations, should it buy or sell government securities?
20. (Money Supply Versus Interest Rate Targets) Assume that the economy’s real GDP is growing. What will happen to money demand over time? If the Fed leaves the money supply unchanged, what will happen to the interest rate over time? If the Fed changes the money supply to match the change in money demand, what will happen to the interest rate over time?
21. (Money Supply versus Interest Rate Targets) In recent years the Fed’s monetary target has been the federal funds rate. How does the Fed raise or lower that rate, and how is that rate related to other interest rates in the economy, such as the prime rate?
22. (Quantity Theory of Money) The quantity theory states that the impact of money on nominal GDP can be determined without details about the aggregate demand curve, so long as the velocity of money is predictable. Discuss the reasoning behind this claim.
Explanation / Answer
Answer )
1.) Fiat money is typically made from inexpensive materials, such as paper or common metals, and is not intrinsically useful or valuable. It is token money—it is not backed by a promise to pay something with intrinsic value. Therefore, it is valuable only as long as it is generally accepted in payment for goods and services sold—that it operates well as a medium of exchange. If people think that others in society will become unwilling to accept it (if they lose faith in its value), they will not accept it and it becomes valueless.
If fiat money begins to rapidly lose purchasing power—for example, if the inflation rate were to become very high—people would begin to lose faith in it. Money would no longer represent a stable store of value, so people would try to replace it with goods or another currency. Inflation may become so high that people would no longer accept it
2.) When new gold was discovered, the increased supply would cause the price of gold to fall (i.e., the supply curve would shift to the right). As a result, money whose value as money depended on the value of the gold contained in it became less valuable relative to other goods. The result was an increase in the number of units of money necessary to buy other goods (i.e., inflation).
3.) Depository institutions are financial institutions that obtain funds mainly by accepting deposits from the public—both businesses and households. The various types in the United States are commercial banks, savings and loans, mutual savings banks, and credit unions. They act as financial intermediaries because they attract deposits from savers and use those funds as the foundation for making loans to borrowers. Depository institutions act as intermediaries because they profit by paying a lower interest rate to savers than they charge borrowers.
4.) The Fed has the power to issue currency, buy and sell government securities, provide loans to member banks (at a rate termed the discount rate), clear checks between banks, and require member banks to hold reserves equal to a specified fraction of their deposits. Its two mandates are to promote price stability and full employment. Other responsibilities include economic growth, interest rate stability, financial market stability, and exchange rate stability.
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