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Topic 5 The Monetary System Chapters 16 & 17 Learning objective Learning objective Consider the nature of money and its functions in the economy Learn about the Federal Reserve System Examine how the banking system helps determine the supply of money Examine the tools used by the Federal Reserve to alter the supply of money Introduce the quantity theory of money The Meaning of Money Money is the set of assets in the economy that people regularly use to buy goods and services from other people. Three Functions of Money Money has three functions in the economy: Medium of exchange Unit of account Store of value Medium of Exchange A medium of exchange is anything that is readily acceptable as payment. Unit of Account A unit of account is the yardstick people use to post prices and record debts. Store of Value A store of value is an item that people can use to transfer purchasing power from the present to the future. Liquidity Liquidity is the ease with which an asset can be converted into the economys medium of exchange. The Kinds of Money Commodity money takes the form of a commodity with intrinsic value. Examples: Gold, silver, cigarettes. Fiat money is used as money because of government decree. It does not have intrinsic value. Examples: Coins, currency, check deposits. Money in the U.S. Economy Currency is the paper bills and coins in the hands of the public. Demand deposits are balances in bank accounts that depositors can access on demand by writing a check. Figure 1 Money in the U.S. Economy Figure 1 Money in the U.S. Economy Copyright2003 Southwestern/Thomson Learning Billions of Dollars Currency ($580 billion) Demand deposits Travelers checks Other checkable deposits ($599 billion) Everything in M1 ($1,179 billion) Savings deposits Small time deposits Money market mutual funds A few minor categories ($4,276 billion) M1 $1,179 M2 $5,455 The Federal Reserve The Federal Reserve (Fed) serves as the nations central bank. It is designed to oversee the banking system. It regulates the quantity of money in the economy. The Federal Reserve The Fed was created in 1914 after a series of bank failures convinced Congress that the U.S. needed a central bank to ensure the health of the nations banking system. The Federal Reserve System The Structure of the Federal Reserve System: The primary elements in the Federal Reserve System are: 1) The Board of Governors 2) The Regional Federal Reserve Banks 3) The Federal Open Market Committee The Feds Organization The Fed is run by a Board of Governors, which has seven members appointed by the President and confirmed by the Senate.... View Full Document

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