Chapter 2: Learning Objectives

1. Chapter 2:Learning Objectives • Functions and Efficiency of Money: from Barter to Monetary Exchange • How should we Define Money? Canadian measures • Monetary Standards & Systems: Types and Historical Experiences • Consequence of Fiat Money: The Costs of Inflation

2. The Functions of Money • Medium of Exchange • How transactions are conducted • Medium of account • How the value of goods & services are denominated • Store of value and a standard of deferred payment • How the value of goods & services are maintained in monetary terms

3. Monetary Standards • Commodity money • Gold, Silver, and Bimetallic standards • Gresham’s Law • Fiat money • Paper money standard • Canada’s early paper money history • The introduction of central banking

4. The Measurement of Money • Taking an Empirical approach • Institutional aspects: • chartered vs. other types of financial institutions • types of deposits and their evolution: the growth of electronic transactions (Table 2.1)

5. Transactions Data

6. The Measurement of Money • Taking an Empirical approach • Institutional aspects: • chartered vs. other types of financial institutions • types of deposits and their evolution: the growth of electronic transactions (Table 2.1) • monetary aggregates: definitions and data • Table 2.2 & Figure 2.1

7. The Canadian Money Supply: Key Measures, August 2004TABLE 2.2

8. Major Canadian Money Supply Aggregates

9. Currency in Circulation: Seasonally adjusted or unadjusted

10. The Measurement of Money • Taking an Empirical approach • Institutional aspects: • chartered vs. other types of financial institutions • types of deposits and their evolution: the growth of electronic transactions (Table 2.1) • types of financial assets • seasonal adjustment (Figure 2.2) • Other refinements

11. Inflation Versus Deflation • There are 2 types of inflation/deflation: • Anticipated: there are NO surprise changes in prices • Unanticipated: SOME price changes are NOT expected • Most inflations/deflations are NOT FULLY anticipated

12. The Costs of Inflation • Creditor vs. lenders: real interest rate effect • Seigniorage: the profit from printing money • “Shoe-leather” costs: frequent need for more cash • Tax implications: paying tax on inflation • “Menu” costs: cost of frequent price changes • Accounting problems: historical vs current costs • inflation level and volatility: positively related • Inflation and Economic growth: negatively related

13. What’s Special About Deflation? • When prices fall the REAL value of debt rises • Debtors are penalized; borrowers benefit • When prices fall EXPECTATIONS of additional reductions are possible • Consumers postpone purchases with further negative economic implications • If monetary policy responds by lowering interest rates they could fall to zero • At zero (nominal) interest rates cannot become negative • This is called the “zero lower bound”

14. Summary • Monetary systems are more efficient than barter systems • Money has 3 functions • medium of exchange • medium of account • store of value • Canadian definitions of the money supply include M1, M2, M2+, M3 • Excessive monetary expansion leads to inflation which is socially costly • Deflation is the opposite of inflation and can produce serious negative economic consequences