CIA 4U0 - Money & Banking

1. CIA 4U0 - Money & Banking Mr.T

2. MONEY • Money is anything that people are willing to accept as payment for goods & services • In the past cows, stones, beads, beaver pelts and gold have functioned as money • Canadian dollars are legal tender in Canada, whereas credit cards and Canadian Tire money do not have to be accepted as payment • Cheque - order to pay an individual a specific amount of money from demand deposit or chequing account • Money supply (M1) = Currency + Chequing • M2 = Money is currency + demand deposits (M1) + notice and term deposits

3. BARTER • One good or service must be exchanged for another good or service • Problem of double coincidence of wants (finding goods and agreeing upon a currency) arises which wastes a lot of time • Problem of indivisibility of bartered goods and services also arises (I owe you half a cow, for instance…ouch) • Money solves both of these problems

4. What's so great about money? • Medium of exchange • Generally acceptable • Portable • Divisible • Unique • Uniform in value • Measure of value • Store of value • Liquidity

5. BANKING • Chartered banks have a federal charter (e.g. RBC, CIBC, BMO, TD Canada Trust, Scotiabank, National Bank of Canada, Laurentian Bank, Canadian Western) • Schedule 1 banks are the eight largest banks in Canada and have immense financial power with over 95% of M1 (an individual can not own more than 10% of any S1 bank) • Schedule 2 banks are subsidiaries of foreign banks and have little impact on the Canadian economy • Branch banking in Canada vs. unit banking in USA (where they have over 15 000 banks)

6. BANK OF CANADA • Central bank of Canada founded in 1935 is now a Crown corporation • The bank of the banks supplies Canada with currency • Federal government uses B of C to manage its financial affairs (e.g. bonds) • Main function is controlling the money supply to meet the needs of the Canadian economy • B of C also sets interest rates

7. OTHER FINANCIAL INSTITUTIONS • Trust companies • Mortgage companies • Credit unions and caisses populaires (aka French Credit Unions)

8. Canadian Financial System • In Canada, the money supply is associated with deposit-takers • Deposit-takers, take savers' money and re-lend it to others. • Deposit-takers also keep some money on hand, known as cash reserves • The reserve ratio is the amount that must be kept as cash. In Canada banks may lend $20 in loans for every $1 in capital that they own. • In the U.S. and Europe, this ratio can be as high as 40:1…credit crisis anyone?

9. Reserve Ratio • Until 1994, banks were required to maintain a certain ratio of reserves (10:1) • Now, banks have desired reserves where they decide how much currency they should have to meet depositors' demands

10. MONEY CREATION • When banks loan customers’ deposits, money is created. • Cash-reserve requirements or fractional reserves determine how much the money supply can be increased based on the amount of the deposits. • I.e., a bank can lend out more money than it has… • The banks only need enough money for the daily needs of customers and can lend out the rest to earn interest and profits for the bank.

11. An example of cash creation • Payman deposits $2000 in his bank account. • The bank now has an extra $2000 in cash reserves. They have a desired reserve ratio of 20:1, so they only want to keep $100 of that deposit in cash • The bank lends the remaining $1900 to a borrower so that they maintain desired reserve ratio. • The bank's assets and liabilities now look like this  • The borrower can take that $1900 and deposit it wherever they'd like, but when they pay it off, the bank will now have $1900 more dollars to lend out. • When they pay back that $1900, the bank will have too much cash reserves again, and will loan out 95% of the $1900. • Remember, this is $1900 that never existed. • This explains why banks are so wealthy.

12. The Supply of Money • Currency: Paper money and coins • Deposits: Money people loan to banks • Demand Deposits: accounts that have immediate access, like a chequing account • Notice deposits: deposit-takers require notice before withdrawal can happen • Term deposits: depositors guarantee they will not withdraw funds for a fixed period of time (GICs)

13. REGULATION OF THE MONEY SUPPLY • Open market operations are the buying and selling of federal government bonds by B of C • Expansion of the money supply  B of C buys CSBs (Canada Savings Bonds) • Contraction of the money supply  B of C sells CSBs • Changes in the bank rate or lending rate to banks influences the prime lending rate to the banks’ best customers • Moral suasion  used by the Governor of the B of C to influence lending policies at banks