Download Unit 5 Overview

Unit V – Financial Sector (20-25% of AP Macroeconomics exam)
Objectives:
 NCEE Content Standard 11 – Money makes it easier to trade, borrow, save, invest, and compare
the value of goods and services.
 NCEE Content Standard 12 – Interest rates, adjusted for inflation, rise and fall to balance the
amount saved with the amount borrowed, which affects the allocation of scarce resources between
present and future uses.
 NCEE Content Standard 18 – A nation’s overall levels of income, employment, and prices are
determined by the interaction of spending and production decision made by all households, firms,
government agencies, and others in the economy.
 NCEE Content Standard 19 – Unemployment imposes costs on individuals and nations.
Unexpected inflation imposes costs on many people and benefits some others because it arbitrarily
redistributes purchasing power. Inflation can reduce the rate of growth of national living standards
because individuals and organizations use resources to protect themselves against the uncertainty
of future prices.
 NCEE Content Standard 20 – Federal government budgetary (fiscal) policy and the Federal
Reserve System’s monetary policy influence the overall levels of employment, output, and prices.
Vocabulary: (Big topics in bold)
Saving (Public vs Private)
Investment
Personal Investment
Stock Market
Bond Market
Primary and Secondary Market
Stocks: Advantages/Disadvantages
Bonds: Advantages/Disadvantages
Diversification
Liquidity
Bonds Prices
Interest Rates
Time Value of Money
SEC
Risk and Return
Loanable Funds Market
National Savings
Deficits versus Surplus
Crowding Out
Functions of Money
Commodity versus Fiat
Money Supply Definitions
Functions of FED
Federal Reserve Tools
Fractional Reserve Banking
Open Market Operations
Reserve Requirement
Excess Reserves
Discount Rate
Monetary Policy
Federal Funds Rate and Target
Taylor Rule
Inflation Targeting
Theory of Liquidity Preference
Nominal versus Real
Monetary Neutrality
Fisher Effect
Numbers and Formulas:
Benefit Cost Analysis (MB >= MC)
Money Multiplier
Visuals:
Loanable Funds Model
Money Market Model
Aggregate Model
AP Macroeconomics Activity Book (answers to Unit 4 M/C sample questions for Unit 5)
1. A
4. E
7. C
10. D
13. E
16. D
19. B
2. B
5. D
8. B
11. A
14. A
17. C
3. D
6. E
9. D
12. C
15. B
18. D
Unit V Calendar:
Monday
Tuesday
19
Unit 4 Test
Wednesday
20
Bonds
Hwk: Read
Module 22
Hwk: Unit
5 RP due
Wed., 1/11
Hwk: Read
Module 29
(p. 276281)
12/24
3
9
Hwk: Read
Modules 29
(p.281-285)
and 32
23
Loanable Funds,
Risk versus
Return
Hwk: Read
Modules 2327, AP
Macro
Activity 4-5
No School
4
5
6
FED Tools
Tools cont.
Models
Hwk: AP Macro
Activity 4-6
Hwk: Read
Module 28
Hwk: Read
Module 31
and AP
Macro
Activity 4-4
10
Policy cont.
Friday
22
Stocks
Hwk: AP Macro
Activities 4-1,
4-3
Hwk: AP
Macro
Activity 4-7
21
Savings and
Investment
Vacation
January 2
No School
Monetary
System
Monetary
Policy
Thursday
11
12
13
Policy: Short
Run versus Long
Run
Optional
Unit 5 Test
2:15-3:00
Optional
Unit 5 Test
2:15-3:00
Hwk: AP
Macro
Activity 4-9
Please sign
up by Fri.,
Jan.6
Please sign
up by Fri.,
Jan. 6
What you should know at the end of this unit:
 Students recognize that saving means not consuming all current income, and investment refers to
the production and purchase of machines, buildings, and equipment that can be used to produce
more goods and services in the future.
 The U.S. financial system is made up of many types of financial institutions, such as the bond
market, the stock market, banks, and mutual funds. All of these institutions act to direct the
resources of households that want to save some of their income into the hands of households and
firms that want to borrow.
 The purpose of two major types of financial assets: Stocks and Bonds
 Because savings can earn interest, a sum of money today is more valuable than the same sum of
money in the future. A person can compare sums from different times using the concept of present
value.
 Risk-averse people can reduce risk by buying insurance, diversifying their holdings, and choosing
a portfolio with lower risk and lower return.
 Efficient Market Hypothesis states that financial markets process valuable information rationally,
so a stock price always equals the best estimate of the value of the underlying business.
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Money serves three functions. As a medium of exchange, it provides the item used to make
transactions. As a unit of account, it provides the way in which prices and other economic values
are recorded. As a store of value, it provides a way of transferring purchasing power from the
present to the future.
Commodity money, such as gold, is money that has intrinsic value: It would be valued even if it
were not used as money. Fiat money, such as paper dollars, is money without intrinsic value: it
would be worthless if it were not used as money.
The Federal Reserve, the central bank of the United States, is responsible for regulating the US
Monetary System. The FED chairman is appointed by the President and confirmed by Congress
every four years. The chairman is the lead member of the Federal Open Market Committee, which
means about every six weeks to consider changes in monetary policy.
The FED controls the money supply primarily through open-market operations. The purchase of
government bonds increases money supply, and the sale of government bonds decreases the
money supply. The Fed can also expand the money supply by lowering the reserve requirements
or decreasing the discount rate, and it can contract the money supply by raising the reserve
requirements or increasing the discount rate.
Monetary Policy (an increase in the money supply reduces the equilibrium interest rate for any
given price level. Because a lower interest rate stimulates the investment spending, the aggregate
demand curve shifts to the right and vice versa)
The Federal Reserve has in recent years set monetary policy by choosing a target for the federal
funds rate, a short term interest rate at which banks make loans to one another. As the FED
achieves its target, it adjust money supply.
The overall level of prices in an economy adjusts to bring money supply and money demand into
balance. When the central bank increases the supply of money, it causes the price level to rise.
Persistent growth in the quantity of money supplied leads to continuing inflation.
Keynes proposed the theory of liquidity preference to explain the determinants of the interest rate
and how the rate will adjust to balance the supply and demand for money.
An increase in the price level raises money demand and increases the interest rate that brings the
money market into equilibrium. Because the interest rate represents the cost of borrowing, a higher
interest rate reduces investment and thereby, the quantity of goods and services demanded.
The principle of money neutrality asserts that changes in the quantity of money influence nominal
variables but not real variables. Most economists believe that money neutrality approximately
describes the behavior of the economy in the long run.
A government can pay for some of its spending simply by printing money. When countries rely
heavily on this “inflation tax,” the result is hyperinflation.
According to the Fisher Effect, when the inflation rate rises, the nominal interest rate rises by the
same amount, so that the real interest rate remains the same.