Chapter 1 economics of money, banking, and financial markets (5th Cad. Ed.)

7/23/2019 Chapter 1 economics of money, banking, and financial markets (5th Cad. Ed.)

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ECON 345- Section 001Money and BankingTerm 1 (September 08 - December

04, 2015)

Chapter 1

FAll, 2015

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PART I: INTRODUCTION AND REVIEW

− Why Study Money, Banking, and FinancialMarkets?

We all use money and most of us use banks.Despite this, the actual working of the banking

system is a bit of a mystery to most (especiallyfractional reserve banking).

Barter incrementally builds to a modern society

with fractional reserve banking. Through thisprocess, you will hopefully gain a deepunderstanding of how money and bankingworks in our modern world.

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Why Study Financial Markets?

Financial markets are markets in which funds

are transferred from people and who have anexcess of available funds to people who have ashortage.

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The Bond Market and Interest Rates

A security (financial instrument) is a claim onthe issuers future income or assets.

A bond is a debt security that promises tomake payments periodically for a specifiedperiod of time.

An interest rate is the cost of borrowing or theprice paid for the rental of funds.

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Interest Rates on Selected Bonds

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The Stock Market

Common stock represents a share of ownershipin a corporation.

A share of stock is a claim on the residual

earnings and assets of the corporation.

Market capitalization or market cap is the totalmoney market value of the shares outstanding

of a publicly traded company; it is equal to theshare price times the number of sharesoutstanding.

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Stock Prices

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Why Study Financial Institutions andBanking?

Banks and other financial institutions are what

make financial markets work.

They play a crucial role in the economy.

The financial system is complex and heavilyregulated by the government.

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Financial Intermediaries Institutions that accept deposits and make

loans: chartered banks, trust and mortgageloan companies, and credit unions and caissespopulaires (Credit Union).

Other Financial Institutions: insurancecompanies, finance companies, pension funds,mutual funds and investment banks

A mutual fund- pools money from manyinvestors to purchase securities. It is mostcommonly applied only to those collectiveinvestment vehicles that are regulated and sold

to the general public.

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Financial Innovation

The development of new financial products andservices can be an important force for good bymaking the financial system more efficient.

Side Note: a security is a tradable financialasset of any kind. Securities are broadlycategorized into: debt securities,e.g.,banknotes, bonds and debentures) and

equity securities, (e.g.,common stocks)derivatives, (e.g.,forwards,futures,options andswaps).

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Financial Crises

Financial crises are major disruptions in

financial markets that are characterized bysharp declines in asset prices and the failures of many financial and nonfinancial firms.

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Why Study Money and Monetary Policy?

Evidence suggests that money plays animportant role in generating business cycles.

Recessions (unemployment) and expansionsaffect all of us.

Monetary Theory ties changes in the money

supply to changes in aggregate economicactivity and the price level.

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Money Growth and the Business Cycle

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Price Level and the Money Supply

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Average Inflation Rate Versus AverageRate of Money Growth for Selected

Countries, 2000-2010

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Money and Interest Rates

Interest rates are the price of money.

Prior to 1980, the rate of money growth and

the interest rate on long-term bonds wereclosely tied.

Since then, the relationship is less clear but still

an important determinant of interest rates.

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Money Growth and Interest Rates.

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Monetary Policy

Monetary policy is the management of the

money supply and interest rates −

conductedby the Bank of Canada (the Bank)

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Fiscal Policy

Fiscal policy deals with government spendingand taxation.

Budget deficit is the excess of expendituresover revenues for a particular year.

Budget surplus is the excess of revenues overexpenditures for a particular year.

Any deficit must be financed by borrowing.

G B d S l D fi

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Government Budget Surplus or Deficit

Wh S d I i l Fi ?

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Why Study International Finance?

Financial markets have become increasinglyintegrated throughout the world.

Canadian companies borrow in foreign financialmarkets and foreign companies borrow inCanadian financial markets.

Banks and other financial institutionsincreasingly international.

Th F i E h M k

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The Foreign Exchange Market

The foreign exchange market is where funds areconverted from one currency into another.

The foreign exchange rate is the price of onecurrency in terms of another currency.

The foreign exchange market determines the

foreign exchange rate.

Th F i E h R

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The Foreign Exchange Rate

The exchange rate is the price of one country’scurrency in terms of another

Appreciation is a rise in the value of theCanadian dollar

Depreciation is a fall in the value of the

Canadian dollar

E h R t f th C di D ll

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Exchange Rate of the Canadian Dollar

Th I t ti l Fi i l S t

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The International Financial System

The international financial system has a growingimpact on domestic economies:

Exchange rate policies are an importantdeterminant of how monetary policy is

conducted.

Capital controls have an effect on domesticfinancial systems

What role international financial institutionssuch as the International Monetary Fund play?

Ho We Will St d Mone Banking and

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How We Will Study Money, Banking, andFinancial Markets

A simplified approach to the demand for assets.

The concept of equilibrium.

Basic supply and demand to explain behavior infinancial markets.

The search for profits.

An approach to financial structure based ontransaction costs and asymmetric information.

Aggregate supply and demand analysis.

Bank of Canada Website

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Bank of Canada Website

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Chapter 1 economics of money, banking, and financial markets (5th Cad. Ed.)

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