Chapter 20

1. Chapter 20 Money, Financial Institutions, and the Federal Reserve

2. What is Money? • Something tangible that people commonly exchange for goods and services. • Should be • Rare • Hard to duplicate • Resilient and durable • Easy to transport

3. The Money Supply • Three parts: • M1: The bills, coins, and checks in the nation • M2: The savings accounts, mutual funds, and money market investments in the nation • M3: Large deposit agreements between banks

4. Importance of the Money Supply • Allows companies and people to borrow to pursue new projects and buy more things • Results in the decline of the value of a dollar, because supply of the dollar goes up • Not good long-term!!! Many dollars used to buy foreign goods, and the price of foreign goods in American dollars starts to go up as well.

5. History of “The Fed” • Created in 1907 after a Panic, in which no one trusted the value of the assets in the banks. • Caused a nationwide run on the banks, and a national hoarding of cash. • There was no money to buy anything with, and banks went under. • JP Morgan and others created the Fed to oversee the nation’s money.

6. What is the Fed? • It is a nongovernmental institution run by 7 governors, selected by the President and approved by Congress. • Real power comes from the Open Market Committee • 7 governors • President of the New York Federal Reserve • 4 alternating reserve banks

7. Role of the Open Market Committee • Control of the money supply by changing: • The discount rate (the rate at which Reserve banks lend out money to other banks) • Selling or buying of government bonds • Reserve requirements

8. Money and Inflation • Work just like traditional supply and demand • When there is a great deal of money in the market, sellers jack up prices, and the value of money declines (inflation) • When there are not many people with money, sellers lower prices, and money appreciates.

9. The Role of the Fed as a National System • Not all banks are in every state • Fed works as a system of presenting checks in one state and getting them honored in another. • Why it takes a few days for a check to “clear” • Not really necessary in today’s high-tech world.

10. Recent Problems with the Fed • Greenspan (former chairman) and Bernanke used interest rates to fuel the economy throughout the early 2000s until the interest rate is ridiculously low. • Nowhere to turn when recession hit – interest rates already so low! • Bush and Obama both backed printing and releasing of money into the system – inflation expected.

11. Criticisms of the Reserve System • Some want a return to the “gold standard” instead of money that floats • Allegations that the Reserve is a system created by bankers to “reserve” their wealth! • Controls are not working as they should • Deflation and economic health are not moving the same direction!

12. Criticisms of the Reserve System • Inflation does not just “happen.” We have come to think that it is normal, but actually, it wouldn’t happen if the Fed wouldn’t release money into the supply to relieve recessions.

13. Other U.S. Financial System Players • Commercial banks • Make money off lending and fees • Use depositors’ money to lend to borrowers • Savings and loan organizations • Extend checking and savings accounts and make home loans • Bailed out in the 80s after lying about asset values after people bailed on their home loans (familiar?)

14. Other U.S. Financial System Players • Credit unions • Nonprofit institutions that are member-owned • When the institution makes money, members get a bonus • Nonbanks • Can make deposits – often not FDIC insured (deposits would be guaranteed up to $100,000)

15. The Global Financial System • No controls • Other nations furious at recent U.S. system failure • World Bank and IMF • Basically just lending institutions to help developing countries compete on a global scale.