The 3 Functions of Money

 Medium of exchange: an item buyers give to sellers when they want to purchase g&s
 Unit of account: the yardstick people use to post prices and record debts
 Store of value: an item people can use to transfer purchasing power from the present to
the future

2 kinds of money:
Commodity money: takes the form of a commodity with intrinsic value
Example: gold coins, cigarettes in POW camps.
Fiat money: money without intrinsic value (giá trị nội tại) used as money because of government
decree
Ex: the us dollar

The money supply

The money supply (or money stock): the quantity of money available in the economy
What assets should be considered part of the money supply? Two candidates:
▪ Currency: the paper bills and coins in the hands of the (non-bank) public
▪ Demand deposits: balances in bank accounts that depositors can access on demand by writing a
check

Measures of the U.S. Money Supply

▪ M1: currency, demand deposits, traveler’s checks, and other checkable deposits.
M1 = $1.4 trillion (June 2008)
▪ M2: everything in M1 plus savings deposits, small time deposits, money market mutual funds,
and a few minor categories.
M2 = $7.7 trillion (June 2008)

Central Banks & Monetary Policy

▪ Central bank: an institution that oversees (giám sát) the banking system and regulates the
money supply
▪ Monetary policy: the setting of the money supply by policymakers in the central bank
▪ Federal Reserve (Fed): the central bank of the U.S.
 Bank Reserves
▪ In a fractional reserve banking system, banks keep a fraction of deposits as reserves and use the
rest to make loans.
▪ The Fed establishes reserve requirements, regulations on the minimum amount of reserves that
banks must hold against deposits.
▪ Banks may hold more than this minimum amount if they choose.
▪ The reserve ratio, R
= fraction of deposits that banks hold as reserves
= total reserves as a percentage of total deposits

The Fed’s 3 Tools of Monetary Control

1. Open-Market Operations (OMOs): the purchase and sale of U.S. government bonds by the
Fed.
▪ To increase money supply, Fed buys govt bonds, paying with new dollars.
...which are deposited in banks, increasing reserves
...which banks use to make loans, causing the money supply to expand.
▪ To reduce money supply, Fed sells govt bonds, taking dollars out of circulation, and the process
works in reverse.
OMOs are easy to conduct, and are the Fed’s monetary policy tool of choice.
2. Reserve Requirements (RR): affect how much money banks can create by making loans.
▪ To increase money supply, Fed reduces RR.
Banks make more loans from each dollar of reserves, which increases money multiplier and
money supply.
▪ To reduce money supply, Fed raises RR, and the process works in reverse.
▪ Fed rarely uses reserve requirements to control money supply: Frequent changes would disrupt
banking.
3. The Discount Rate: the interest rate on loans the Fed makes to banks
▪ When banks are running low on reserves, they may borrow reserves from the Fed.
▪ To increase money supply, Fed can lower discount rate, which encourages banks to borrow
more reserves from Fed.
▪ Banks can then make more loans, which increases the money supply.
▪ To reduce money supply, Fed can raise discount rate.
The Fed uses discount lending to provide extra liquidity when financial institutions are in
trouble,
e.g. after the Oct. 1987 stock market crash.
▪ If no crisis, Fed rarely uses discount lending – Fed is a “lender of last resort.”

Problems Controlling the Money Supply

▪ If households hold more of their money as currency, banks have fewer reserves, make fewer
loans, and money supply falls.
▪ If banks hold more reserves than required, they make fewer loans, and money supply falls.
▪ Yet, Fed can compensate for household and bank behavior to retain fairly precise control over
the money supply.

Bank Runs and the Money Supply

▪ A run on banks:
When people suspect their banks are in trouble, they may “run” to the bank to withdraw their
funds, holding more currency and less deposits.
▪ Under fractional-reserve banking, banks don’t have enough reserves to pay off ALL depositors,
hence banks may have to close.
▪ Also, banks may make fewer loans and hold more reserves to satisfy depositors.
▪ These events increase R, reverse the process of money creation, cause money supply to fall.
During 1929-1933, a wave of bank runs and bank closings caused money supply to fall 28%.
▪ Many economists believe this contributed to the severity of the Great Depression.
▪ Since then, federal deposit insurance has helped prevent bank runs in the U.S.
▪ In the U.K., though, Northern Rock bank experienced a classic bank run in 2007 and was
eventually taken over by the British government.

Variables that Influence Net Exports

▪ Consumers’ preferences for foreign and domestic goods
▪ Prices of goods at home and abroad
▪ Incomes of consumers at home and abroad
▪ The exchange rates at which foreign currency
trades for domestic currency
▪ Transportation costs
▪ Govt policies

Trade Surpluses & Deficits

NX measures the imbalance in a country’s trade in goods and services.

▪ Trade deficit: (nhập siêu)
an excess of imports over exports
▪ Trade surplus: (xuất siêu)
an excess of exports over imports
▪ Balanced trade:
when exports = imports
exercise:
 An American art professor spends the summer touring museums in Europe: The
American art professor is spending his American dollars on European goods/services
(touring museums), which then the U.S. imports rises and net exports fall.
 Students in Paris flock to see the latest movie from Hollywood: Students in Paris are
spending their euros too see a movie in America, which then both the U.S. exports and
net exports rises.
 Your uncle buys a new Volvo: My uncle is American, so he would use his American
dollars to buy a foreign car, which then U.S. imports rise and net exports fall.
 The student bookstore at Oxford University sells a pair of Levi's 501 jeans: The student is
selling American Levi's to people at Oxford University in London, which then both U.S.
exports and net exports will rise.

The flow of capital

Net capital outflow (NCO): domestic residents’ purchases of foreign assets minus foreigners’
purchases of domestic assets
▪ NCO is also called net foreign investment.

The flow of capital abroad takes two forms:

▪ Foreign direct investment: Domestic residents actively manage the foreign investment, e.g.,
McDonalds opens a fast-food outlet in Moscow.
▪ Foreign portfolio investment: Domestic residents purchase foreign stocks or bonds, supplying
“loanable funds” to a foreign firm.
1. When bond prices rise => interest rate fall
2. The quantity of money pp want to hold increases if => real gdp increase
3. If FED wants to increase the quantity of money => it can purchase US government
securities
4. The opportunity cost of holding money is => the interest rate
5. If you buy bond for $750 that pays 10% and the interest rate falls to 8%, then the price of
the bond => has risen
6. When the current interest rate is above the equilibrium interest rate , there is an => excess
quantity of money and pp will buy bonds
7. Raise interest => Sell bonds to decrease the quantity of money
8. Instruments available to the FED to achieve its macroeconomic goals:
 Changes in the quantity of money
9. FED’s goals: price level stability
10. Potential intermediate target of FED: federal funds rate
11. If inflation rate is higher than expected, the real interest rate is lower than expected,
which helps borrowers and hurts lenders
12. Have defined price stability as occurring when inflation is => between 0-3%
13. A monetary policy that specifies action independent of the state of the economy is called
=> a fixed-rule policy
14. 3 types of unemployment rate: frictional, structural, cyclical
15. Structural unemployed: Involves mismatches between job seekers and job openings.
Unemployed people who lack skills or have a poor education are structurally
unemployed.
*the individual lacks marketable job skill because technology has changed
16. Frictional unemployment: Includes people who are temporarily between jobs. They
may have quit one job to find another, or they could be trying to find the best opportunity
after graduating from high school or college.
- Lương thấp
-
17. Cyclical unemployment: Rises in recession. For example, it may be caused by too little
spending in the economy. People are not buying many goods and services, so workers are
laid off.
18. Which money? => checking deposit
19. A minimum wage law => create more unemployment in low-skill job markets than in
high-skill job markets
20. Kết quả của tiền lương cao hơn mức lương cân bằng cạnh tranh=> structural
unemployment
21. the wage is held above the competitive equilibrium wage => the quantity of labour
supplied will exceed the quantity of labour demanded and there will be unemployment.