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Money and
Banking
CH. 10 & 11 ECONOMICS
What is money?
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Anything that serves as a medium of exchange
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Functions
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Unit of account: Compare value of goods and services
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Store of value: Keeps value if stored/saved
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Unless there is inflation that devalues currency
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Inflation: Too much money in circulation, causes $ to lose values and prices to rise
Barter: Direct exchange of one set of goods or services for another
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Disadvantages: Must find a person that wants what you have and has a
something that would qualify as an even exchange
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https://www.youtube.com/watch?v=Dugn51K_6WA&index=11&list=PL8dPuua
LjXtPNZwz5_o_5uirJ8gQXnhEO
Inflation Rate in the US
2015: Currently 0%
Characteristics of Viable Currency
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Durability: Survive wear and tear?
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Portability: Easy to carry around for daily use
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Divisibility: Can be broken down into smaller denomination
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Uniformity: All money is the same, unlike fish or stones, etc.
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Limited Supply: There is enough money in circulation, but not too
much so that it loses value and creates inflation
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Acceptability: Everyone agrees that this currency has value
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Bitcoin: Current value 1 bitcoin = $362
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https://www.youtube.com/watch?v=s4g1XFU8Gto
Bitcoin Value and Exchange Rate
Source of Value
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Commodity Money: Currency that has value in itself, useful not just
as $ but in other ways
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Ex: wheat, salt, pepper, cows, stones, jewels, fish, etc.
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Ancient Egypt: Beer used to pay workers who built the Pyramids
Representative Money: Has value because the holder can
exchange it for something else with value (gold/silver)
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Specie: Coined money
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Paper receipts for gold was an early form of currency
Fiat Money: Decreed by govt to be acceptable way to pay debt
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Current system
History of Money in America
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American Revolution: Continentals
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Couldn’t redeem for gold because the govt didn’t have the power to
collect taxes = unsuccessful
The Gold Standard: After establishing the Constitution in 1789
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Could redeem cash for gold until the 1930s (Ended officially in 1971)
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Whose faces are on our currency? Have there been any women?
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http://www.history.com/news/8-things-you-may-not-know-about-americanmoney
History of Banking in America
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Local banks were informal: Collected small fee to keep your $ safe
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1789: After Constitution, Debate between Federalist Hamilton and
Anti-Federalist Jefferson
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Hamilton wanted a strong central bank to promote trade, and to
monitor $ and private banks
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Jefferson fears wealthy will gain control of the bank and believes states
should regulate it themselves
1791: 1st Bank of the US (20 year charter)
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Holds tax $ and issues representative $
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Congress doesn’t actually have this power under the Constitution
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People had little confidence in the bank = collapse
History of Banking
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1816-1832: 2nd Bank of the US
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Sought to rebuild confidence in the banking system
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http://www.history.com/topics/bank-war
1837-1863: Free Banking Era
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Bank runs: People panic and rush to withdraw all $ until the bank shuts down
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Wildcat banks on the Western Frontier
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Fraud and counterfeiting: Producing fake currency
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Multiple currencies exist
Civil War: Union issues greenbacks and this becomes the single national
currency afterward
History of Banking
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1870s: The Gold Standard – paper currency is backed by gold and can be
exchanged for it’s value
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One ounce = $20
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Provides stability and confidence
1913: The Federal Reserve System
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Today’s currency: Federal Reserve Bank Notes
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12 regional government/central banks that oversee member banks
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Federal Reserve Board appointed by the President
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Promote banking stability
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Provide short-term longs to private banks to prevent bank failure
Control money supply
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Regulate inflation through interest rates
Inflation and Interest Rates
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Federal Reserve banks lend money to private banks in order to insure your money:
Keeping enough on hand to avoid bank failure
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Private banks pay interest to the Fed for the loan
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Consumers and businesses pay interest to the private banks for loans
If there is inflation: There is too much money circulating in the system
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Value of currency decreases
To get rid of inflation: The Federal Reserve can raise interest rates
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Less banks/consumers/businesses will take out loans to avoid fees
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This means they will also SPEND less money
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This leaves less money in circulation = fixes inflation
Deflation is the opposite: Not enough money in the system
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Lower interest rates = more loans = more spending = more in circulation = fixes deflation
History of Banking
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1930s: Great Depression
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Many bank runs and failures
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New Deal: Reforms the system in 1933
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FDIC: Federal Deposit Insurance Corporation
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Money insured up to $250,000
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Banks were closely regulated through the 1960s
1970s and 80s: Deregulation of banks and “Savings and Loans”
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Interest rates sky rocket and banks give many risky loans
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1989: Savings and Loans are regulated and put under FDIC
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https://www.youtube.com/watch?v=GPOv72Awo68&list=PL8dPuuaLjXtPNZwz5_o_5uirJ8gQXnhEO&index=12
Modern Economics Issues
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1990s: Subprime mortgages become popular – predatory lending
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Lend to borrowers with bad credit and low ability to repay
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Higher interest rate comes with higher risk = bank profit
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Housing prices increase, many financial institutions invest in this system
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Bubble: Prices rapidly increase due to irrational decisions
By 2005, 25% of mortgages were subprime
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Rise in foreclosures: Seize property from those who can’t pay
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Housing bubble burst: Real estate prices decline
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Lenders and investors lose $ and are forced to claim bankruptcy,
default on debt, merge or accept a bailout
2008: Recession and Bailout (TARP)
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Financial Institutions who downsize cause 100,000s to lose jobs and make it difficult
to get credit
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GW Bush Administration: Decides banks are “too big to fail”
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Approves $700 billion bailout of banks, auto industry and financial institutions
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Obama 2009: Approves $787 stimulus package to boost economy
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Included tax cuts and spending increases on infrastructure, healthcare, etc.
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http://projects.propublica.org/bailout/main/summary
Glass-Steagall Act:
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Govt lends them money to keep them from collapsing, restart flow of credit
http://www.investopedia.com/terms/g/glass_steagall_act.asp
Whose fault was this? Should they be punished?
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After 1980s crisis, 839 bankers went to jail
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After 2008, 1 banker went to jail
Currency Wars
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August 2015: China devalued their currency by 4.7% in a week
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Largest drop since 1994; makes their products cheaper
2nd largest economy in the world
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Growth around 7-10%, slowing down usually devalues currency
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Unsustainable growth: Most is investment (48%, compared to 10-15% in most
countries)
Most countries allow their currency’s value to be determined by world markets
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China has used US dollar to manage/tether their currency since mid-1990s
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World is urging China to use market value so everyone can benefit from their growth
and to balance US trade deficit
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Not all bad: As others devalues, ours is stronger =currency appreciates
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Opposite is depreciation
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https://www.youtube.com/watch?v=i3RZoHZ0EgI
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https://www.youtube.com/watch?v=geoe-6NBy10&list=PL8dPuuaLjXtPNZwz5_o_5uirJ8gQXnhEO&index=15
Financial Markets
ECONOMICS CHAPTER 11
Banking Today
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Money Supply: All the money available in the US economy
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Liquidity: The ability to be used as, or directly converted into cash
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M1: Money that people can gain access to easily and immediately
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M2: All assets in M1 and additional items of value that can be converted to cash easily
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Money Market Mutual Funds: Pools money from small savers to purchase short-term govt
and corporate securities
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Allows you to save and write a limited number of checks, more interest than savings account
Securities: Paper traded for value, where profit is anticipated through a third party
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Stock/Equity Securities: Gives ownership position to customer
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Bond/Debt Security: Gives customer loanership position
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Variable annuities, options, etc.
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http://www.investopedia.com/terms/s/security.asp
Banking today
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Certificates of Deposit (CD): Offer a guaranteed rate of interest, but
$ cannot be removed until a certain date (years) or you pay a
penalty
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Fractional Reserve Banking: System that keeps only a fraction of its
funds on hand and lends out the remainder
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Default: Failing to pay back a loan
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Mortgage: Specific loan used to buy real estate
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Principle: Amount of money borrowed
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Pay this back, along with interest
Modern Banks
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Commercial Bank: Majority of banks; Offer wide range of services
like checking accounts, loan services, etc.
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Some chartered by states and regulated by state and FDIC
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1/3rd are national banks and part of the Federal Reserve System
Savings and Loan Associations: Originally chartered to lend money
for building homes in mid-1800s
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Members deposited funds into large group fund and then loaned
enough to build houses
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Also called thrifts, now function like a regular commercial bank
Modern Banks
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Mutual Savings Banks: Originally to serve people with smaller transactions
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Credit Unions: Cooperative lending associations often established by particular
groups/employees of a firm or govt agency
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Formerly owned by depositors, now sell stock to raise capital
Some open to entire community: Small and specialize in consumer loans with love
interest rates, and some allow checking accounts
Finance Companies: Make installment loans to consumers
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Spread the cost of major purchases over number of months, with generally high
interest rates (Ex: car dealership)
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People who do this are more likely to fail to repay loans
Saving and Investing
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Investment: Redirecting resources from being consumed today so
that they may create benefits in the future
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Use of assets to earn income or profit
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Financial System: Network of structures and mechanisms that allows
the transfer of money between savers and borrowers
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Financial Asset: A claim on the property or income of a borrower
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Savings account, govt or corporate bond, CDs, etc.
Financial Intermediaries: Institutions that help channel funds form
savers to borrowers (Chart pg. 279)
Financial Intermediaries
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Mutual Fund: Organization that pools the savings of many individuals
and invests this money in a variety of stocks, bonds, and other
financial assets
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Hedge Fund: Private investment organization that employs risky
strategies that often made huge profits for investors
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Little/No regulation from Securities and Exchange Commission (SEC)
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Life Insurance Companies: To provide financial protection for
families, collect premiums and lend part to investors
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Pension Funds: Income that some retirees receive after working a
certain number of years or reaching a certain age (or get injured)
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Withhold portion of salary, invest money, pay out later
Risk and Diversification
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Diversify: Spread out investments to reduce risk
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Types of Risk (pg. 280)
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Credit Risk: Borrowers may not pay back the $ they have borrowed, or
they may be late in making payments
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Liquidity Risk: You may not be able to convert the investment back into
cash quickly enough for your needs
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Inflation Rate Risk: Inflation rates erode the value of your assets
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Time Risk: You may have to pass up better opportunities for investment
Investment
Portfolios: Collection of financials assets
 Prospectus: Investment report that provides information to potential investors
 Return: $ an investor receives above and beyond the sun of money initially invested
 Bonds: Sold by govt and corporations to fund projects, sold for certain term (period of
time)
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Coupon Rate: Interest rate that a bond issuer will pay to the bondholder
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Maturity: Time at which payment to a bondholder is due
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Par Value: Bond’s stated value, to be paid to the bondholder at maturity
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Yield: Annual rate of return on a bond if the bond is held to maturity
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Bond Ratings: As with other investments, ratings are given to advise which bonds are the
most sound investment
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Types: Treasury, municipal, corporate, inflation-indexed, savings bonds, junk bonds (pg. 289)
The Stock Market
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Shares: A portion of stock
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Dividends: Part of corporations profits paid out to stockholders, usually quarterly
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Capital Gains: Difference between the selling price and purchase price that results
in a financial gain for the seller
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Capital Loss: difference between the selling price and purchase price that results
in a financials loss for the seller
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Stock Split: Division of each single share of a company’s stock into more than one
share
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Stockbroker: Person who links buyers and sellers of stock
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Brokerage Firm: Business that specializes in trading stocks
Stock Exchange
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Stock Exchange: A market for buying and selling stock
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NYSE: Since 1792, largest and most powerful in the country
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Blue Chip Companies: Largest, most financially sound, best-known firms
listed on NYSE, with stock normally in high demand, long term profitably
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Over-the-Counter Market: Stocks aren’t always traded on
exchange, but instead on the phone or internet or from a dealer or
broker
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Nasdaq: National Association of Securities Dealers Automated
Quotation (1971)
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System to help organize the OTC market, largest electronic market for
stocks by broadcasting trading info to computer terminals throughout
the world
Futures and Options
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Futures: Contracts to buy or sell commodities at a particular date in
the future at a price specified today
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Options: Contracts that give investors the right to buy or sell stock
and other financials assets at a particular price until a specified
future date
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Call Option: Contract for buying stock at a particular price until a
specified future date
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Put Option: Contract for selling stock at a particular price until a
specified future date
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Day Trading: Buy dozens of stocks a day, but only hold them for
minutes at a time
Measuring Performance
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Bull Market: Steady rise in the stock market over a period of time
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Bear Market: Steady drop or stagnation in the stock market over a period
of time
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Dow Jones Industrial Average: Measure of stock performance, using value
of a particular set of stocks to represent the whole market (30) in various
areas, reported as number of points
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S&P 500: Standard & Poor’s 500
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Gives broader picture of stock performance than Dow by tracking price
changes of 500 stocks to measure the markets (from NYSE and Nasdaq)
Speculation: Practice of making high-risk investments with borrowed
money in hopes of getting a big return
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Crash and Black Tuesday (1929), Black Monday (1987 & 2008)
https://www.youtube.com/watch?v=tEbZswU
EnsU
https://www.youtube.com/watch?v=2u007M
sq1qo
Stock Market Simulation Links
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Link to Class Game:
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Investing Basics: Stocks
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https://www.youtube.com/watch?v=Snsapamg8CU
EBITDA: Earnings before interest, taxes, depreciation, and
amortization
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http://studentstocktrader.com/play/31291-0
http://www.investopedia.com/terms/e/ebitda.asp
Instructions and helpful hints can be found on the game site and on
your instruction sheet (see link on Economics calendar)