Download Chapter 10

Chapter 10
Money, Banking and
the Financial System
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-1
Learning Objectives
• Review the functions of money—
particularly money as a medium of
exchange, unit of account and store of
value.
• Define what acts as money in our
economy—the M3 and broad money
definitions.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-2
Learning Objectives (cont.)
• Determine what ‘backs’ the supply of
money in Australia—what gives it its value
and ability to be used almost universally.
• Explain the transactions demand and asset
demand for money.
• Examine the institutional structure of the
Australian financial system.
• Discuss the current role of the Reserve
Bank of Australia.
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-3
The Functions of Money
What is money?
• Anything that performs the function of
money is money
• Money is what money does
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-4
The Functions of Money
(cont.)
• Medium of exchange
–
Buying and selling goods and services
• Unit of account
–
Assisting measurement of relative worth of
various goods, services and resources
• Store of value
–
A form in which to store wealth, due to its
liquidity and convenience
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-5
Money Defined: M3
Three components:
• Currency (coins and notes)
• Current deposits in banks upon which
cheques can be drawn
• Non-current accounts such as savings
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-6
Currency
• In Australia, token money
–
intrinsic value is less than face value of the
money
• Coin and note component of the
money supply
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-7
Current Deposits
• Cheques enable the ownership of
current deposits to be transferred
• Generally acceptable as a medium of
exchange
• Can be readily converted into currency
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-8
Non-Current Deposits
• Highly liquid financial assets
• Can be readily converted into currency
or current deposits
• New technologies (such as EFTPOS)
important
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-9
Broad Money
• M3 plus borrowings from the private
sector of non-bank financial
intermediaries (NBFIs) less holdings
of currency and bank deposits by the
NBFIs
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-10
Credit Cards
• Not money
• Simply a convenient method of
obtaining a short-term loan from the
card-issuer
• Facilitate the synchronisation of
receipts and expenditures, reducing
the demand for cash
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-11
Monetary base
Composed of:
• Currency held by the public
• Currency held by the banks
• Banks’ demand deposits with the RBA
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-12
Backing the Money Supply
• Money as debt
• Acceptability of money
• Legal tender
–
Fiat money
• Relative scarcity
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-13
Money and Prices
Government’s responsibility in stabilising
the value of money involves:
• Application of appropriate fiscal
policies
• Effective monetary management
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-14
Demand for Money
• The demand for money is the demand
for real money balance
2 reasons why people demand money:
• Transactions demand
• Asset demand
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-15
Transactions Demand
• The demand for money as a medium
of exchange
• Level depends on money GDP (not
interest rates!)
• Money demand curve is vertical
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-16
Assets Demand
• The demand for money as financial
assets and store of wealth
• Level depends on interest rates
• Down-sloping money demand curve
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-17
Total Demand for Money
(Dm )
• Transactions demand and assets
demand are added horizontally
• Changes in interest rates lead to
movement along the curve
• Anything that changes money GDP
leads to a shift in the money demand
curve
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-18
Demand for Money
7.5
5
2.5
Dt
0 50 100 150 200 250 300
Amount of money
demanded (billions
of dollars)
Asset
Demand, Da
=
10
7.5
5
2.5
Da
0
0 50 100 150 200 250 300
Amount of money
demanded (billions
of dollars)
Total Demand
for Money, Dm
Rate of interest, i (per cent)
10
0
+
Rate of interest, i (per cent)
Rate of interest, i (per cent)
Transactions
Demand, Dt
10
7.5
5
2.5
0
Dm
0 50 100 150 200 250 300
Amount of money
demanded (billions
of dollars)
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-19
The Money Market
• The combination of the money
demand and money supply
determines the equilibrium interest
rate
• The interest rate represents the
opportunity cost of holding money
balances
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-20
Equilibrium Interest Rate
Rate of interest, i (per cent)
Sm
10
7.5
Equilibrium
Interest Rate
ie 5
Dm
2.5
0
0
50
100
150
200
250 300
Amount of money demanded
(billions of dollars)
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-21
The Australian Financial
System
Comprised of:
• The Reserve Bank of Australia (RBA)
• The banks
• Financial intermediaries
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-22
The Reserve Bank of
Australia (RBA)
• Responsibilities set out in the Reserve
Bank Act 1959
• Main functions:
–
Control of note issue
–
Banker to the Banks

Exchange Settlement Accounts

non-callable deposits
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-23
The Reserve Bank of
Australia (RBA) (cont.)
• Main functions (cont.):
–
Banker to the Government

vital role in financing government deficits
–
Management of the international means
of payment
–
Implementation of monetary policy
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-24
The Reserve Bank of
Australia (RBA) (cont.)
• Other functions:
–
Regulation of the payment system
–
Membership of the board of the
Australian Prudential Regulation Authority
(APRA)
–
Membership of the Council of Financial
Regulators
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-25
Next Chapter:
How Banks Create Money
Copyright  2004 McGraw-Hill Australia Pty Ltd
PPTs t/a Macroeconomics 7/e by Jackson and McIver
Slides prepared by Muni Perumal, University of Canberra, Australia
10-26