Document Sample
Ch.17 Powered By Docstoc
					Chapter.17 section 1

 Money Creation, the Federal
Reserve System, and Monetary
          Ch. 17 How Banks Works
                (please read)
   Operating a Bank: banks provide savers and borrowers
    with important services, but they do not do this for free.
    There is a relationship between risk and rate of return. In
    general, the greater the return offered by an investment,
    the greater the risk associated with the investment.
    Banks manage their assets and liabilities to reduce their
    risks. A bank would be wrong to make nothing but
    automobile loans. If something happened that caused
    many of these loans to go bad, the bank could be in
    deep trouble. It would be equally wrong to offer only
    certificates of deposits to savers. By diversifying, banks
    are able to control their risk and improve the probability
    that they will earn a profit.
          Getting a Charter
 Charter is the right to operate.
 Apply to state banking or to U.S.
  Comptroller of the Currency to start up a
  national bank.
 Considering the application, the chartering
  agency would review the quality of
  management, the need for another bank in
  the community
          Getting a Charter
 The founders plan to invest $1,000,000 in
  the bank, indicate on charter application.
 Charter is granted, they incorporate,
  issuing themselves shares of stock, or
  certificates of ownership. Stock shares net
  worth $1,000,000.
 Net worth: Assets minus liabilities; also
  called owners’ equity
 The owners invest this $1,000,00 buying,
  furnishing, and building the bank.
 Asset: is any physical property or financial
  claim owned by the bank.
           Bank Balance Sheet
   Liability: is an amount the banks owes.
   Balance sheet: A financial statement showing
    assets, liabilities, and net worth at a given time;
    assets must equal liabilities plus net worth, so
    the statement is in balance.
   Two sides of the ledger must always be equal,
    or be in balance, which is why it’s called a
    balance sheet
   Assets must equal liabilities plus net worth.
   Assets= Liabilities + Net Worth
            Reserve Accounts
   The Fed requires Home Banks to set aside, or to
    hold in reserve, a percentage of checkable
   Required reserve ratio: dictates the minimum
    proportion of deposits the bank must keep in
   The dollar amount that must be held in reserve
    is called required reserves- checkable deposits
    multiplied by the required reserve ratio.
 The bank is required to hold a % of the
  reserve requirement of a checkable
 Excess reserves- Bank reserves in excess
  of required reserves.
      The Fed Makes a Move
 New Funds deposited in a bank can be
  multiplied into much larger increases in the
  total deposits over time.
 When the fed buys a bond from a bank,
  the money paid is new to the economy.
 The bank will have increased reserves that
  it will loan or spend some other way.
 When the money is spent, it is received as
  income by someone else, who will deposit
  it back into a bank.
 The banks then, after holding back its
  required reserve, will make additional
  loans or invest these funds in some other
   This cycle of deposits, reserves, loans,
    spending, and more deposits is repeated
    many times, causing the amount of money
    in the economy to grow by much more
    than the amount of the original bond
          Money Multiplier
 Is limited by the required reserve ratio.
 When banks are required to keep more
  deposits on reserve, they are able to make
  few loans and the process will be slowed.
    Chapter 17 section 2 Monetary
       Policy In the Short Run
 People demand money so they can
  complete financial transactions and to hold
  as a store of value.
 The amount they wish to hold at any time
  depends on many factors, including the
  interest rate.
 When interest rates are high, people are
  willing to hold less money.
             Money supply
 Is determined by the amount of money
  that the Federal Reserve System has
  placed in the economy.
 It can be viewed as a vertical line graph.
 The intersection of a demand for money
  with the supply of money determines the
  market interest rate in the economy.
 An increase in the money supply will lead
  to a lower interest rate while a decrease in
  the money supply will cause a higher
  market interest rate.
 Lower interest rates stimulate the
  economy while higher rates slow its
            Federal Funds
 The Fed sets targets for the federal funds
  rate, which is the rate banks charge each
  other for borrowing bank reserves.
 The Fed targets this rate because it has
  tighter control over it than other in than
  other interest rates.
 When the Fed changes its target for the
  federal funs rate, most other interest rates
  change, too.
    Chapter 17 section 3 Monetary
       Policy in the Long Run
 Production in the long run cannot be
  sustained above the economy’s potential.
 Efforts to expand aggregate demand and
  production beyond its potential can
  succeed in the short run, but will cause
  prices to rise and production to fall back to
  its potential in the long run.
             Monetary authority
   All economically developed nations have a
    monetary authority similar to the Fed.
   In some nations, this authority is quite
    independent of the political process.
   In others, it is controlled by political figures in the
   In these latter nations, rates of inflation have
    tended to be higher than in other nations where
    the monetary authorities are more independent.
 Deflation makes it more difficult for those
  in debt to repay their loans and
  discourages businesses from investing in
  new facilities or hiring as many workers.
 Some people think there is a danger of
  deflation in the United States and in other
  developed nations.
      Lags in monetary policy
 There are lags in the effectiveness of
  monetary policy.
 It takes time for the Fed to recognize that
  there is a problem, decide what action to
  take, implement the policy, and for the
  economy to react to the changed policy.

Shared By: