Money

Module 23

What is Money?1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• An asset that can easily be used to purchase goods and services

• Cash is the most liquid form of money – it is easily spent

• Liquidity represents how easy it is to convert an asset to cash

Medium of Exchange1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• Money’s most important function is as a medium of exchange

• Without money, trade would only be through barter, which requires a coincidence of wants

• The US dollar serves this purpose for several countries (e.g., Panama)

Store of Value1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• In low inflation, money can be a store of value – it holds its purchasing power over time

• When we leave cash in our sock drawer, we are counting on it keeping its value

Unit of Account1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• Using money to appropriately value something is using as a unit of account

• In medieval times, people used bushels of grain or hours of labor as units of account – the dollar is more flexible

Types of Money1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• What has served as money?

• What can serve as money?

Commodity Money1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• With commodity money the medium of exchange is a good– Gold, silver– The good itself has value

• In prison movies, cigarettes are often depicted as a commodity money

Commodity-backed Money1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• When paper money was first used, it was a commodity-backed money– Medium itself has no intrinsic value– Could be exchanged for a precious metal– Specie

• Allowed banks to begin keeping fractional reserves– The value of all paper notes did not have

to be kept in the bank

Commodity-backed Money1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• In the United States, “greenbacks” were eventually backed by federal gold reserves

• In order to expand the money supply, more gold needed to be mined and acquired

Fiat Money1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• Today, the US dollar is fiat money– It is the official medium of exchange– It is backed by the full faith and credit of

the US Government

• The US Government is “good for it”– Trillions of dollars worth of assets

• $11 Billion in reserves of gold

– Ability to tax

Fiat Money1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• How well does the US dollar serve as money?– Very well– Most $100 bills are held by investors

outside the United States

• What about giant stone disks?– Let’s See

Calculating the Money Supply1) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• Having fiat money allows government to more easily influence the supply of money available– Monetary policy

• How do we calculate the supply of money in the United States?– Monetary aggregates

M11) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• M1 is a monetary aggregate that represents the most liquid form of money

• It consists of:1. Cash (all currency in circulation)2. Demand Deposits (checking accounts)3. Traveler’s Checks

M21) What is Money? - Medium of Exchange - Store of Value - Unit of Account

2) Types of Money - Commodity - Commodity-backed - Fiat

3) The Money Supply - M1 - M2

• M2 includes additional relatively liquid assets, often referred to as near-moneys

• M2 Includes1. M12. Savings Accounts3. Certificates of Deposits4. Money Market Mutual Funds

Problem