Ch. 10: Money and Banking

Ch. 10: Money and Banking

Section 1: Money • Money is a medium of exchange for resources.

Three Uses of Money • Money serves three purposes: • Medium of exchange • Unit of account • Store of value

Medium of Exchange • Anything that is used to determine value in exchanging goods.

Unit of Account • Provides a way of comparing values of goods and services.

Store of Value • Something that holds value if stored rather than used.

Six Characteristics of Good Money • Durability • Portability • Divisibility • Uniformity • Limited Supply • Accessibility

Durability • Can withstand wear and tear and lasts a long time.

Portability • Can be easily moved; small and light.

Divisibility • Can be easily divided into smaller units/denominations

Uniformity • All of the money units are the same

Limited Supply • The money is scarce (limited) to make it valuable.

Acceptability • Everyone uses the money/accepts the money.

Three times of money • Commodity Money: objects that have value themselves, used for money • Cattle, salt, precious stones

Representative Money • Paper certificate that can be exchanged for something of real value (gold, silver)

Fiat Money • Currency that is issued by a governing power, and has been ordered acceptable and legitimate. • US Dollar

Comparing Money

Section 2: History of Banking • Banking has changed throughout history.

Banks • A bank is an institution that receives, keeps, and lends money.

Banks vs. Grocery Stores

Free Banking Era • From 1837-1863, banks could issue their own currency, creating numerous currency options. • Pros? • Cons?

Issues with Free Banking • Lack of centralized currency led to… • Wildcat banks/currencies: banks on the “edge” of society (remote areas) that often failed. • Bank runs: panic led to rapid withdrawal • Fraud • Lack of universal acceptability

Gold Standard • Required all currency to be equal in value to a certain amount of gold. • Limited amount of currency • Removed in 1930s.

Federal Reserve System • Founded in 1913 to serve as nation’s central bank. • The “bankers bank” • Issues money by buying/selling securities • Lends money to banks (determines interest rates)

Federal Deposit Insurance Corporation (FDIC) • In the Great Depression, many banks failed and lost their clients money. • Government created the FDIC, which insurers the savings of individuals in approved banks (up to $250,000).

Section 3: Banking Today • Banks serve as the foundation of economic activity, their actions greatly impact all other decisions.

Money Supply • Money supply- all of the money available in the US economy. • Banks major decision is how much money to make available.

Saving Options (Stored Money) • Savings accounts • Checking accounts • Certificates of deposit (CDs)

Loans • Banks earn money by loaning out the money they have (your stored money).

Fractional Reserve Banking • Banks keep a fraction of what they receive, loaning the rest out. This is cyclical.

Mortgage • Mortgage is a specific type of loan used to buy real estate

Loans: Principal and Interest • Principal is the amount of money borrowed. • Interest is the price paid to the bank for borrowing the principal.

Loans: Principal and Interest • I purchase a house for $200,000 • I pay a down-payment of $40,000 • My principal is $160,000 and my interest rate is 5% • In my first payment, my interest will be 5% of 160,000 divided by 12 months of the year. • What is the interest of my first payment of the loan? • What is the interest of my monthly payment when my principal is down to $100,000?

Compounded Interest • Money that is loaned/invested earns compounded interest. • As interest returns, it is added to the principal, then interest is paid for the new principal as well. • This creates exponential returns.

Compounded Interest • 72 / interest rate = # of years it takes your money to double in an investment.

Compounded Interest • Saving early is important.

Ch. 10: Money and Banking