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ReviewQuestions2KeyNew - ECON 1000 Exam#2 Review Question...

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ECON 1000 - Exam #2 Review Question Answers 1. Money Supply a) Define the four levels of money supply, M1, M2, M3, and L. M1 = coins + currency + checkable deposits + travelers checks M2 = M1 + Savings Deposits of Small Denominations M3 = M2 + Savings Deposits of Large Denominations L = M3 + SDRs + Commercial Papers + Banker’s Acceptance + Eurodollars 2. Evolution of Money a) Define the three types of money: commodity money, representative money, and credit money. Commodity money – has intrinsic value (e.g. gold coins) Representative money – represents an object of value, but is not of valuable in and of itself (e.g. gold-backed currency) Credit money (also called fiduciary money or fiat money) – money that is not backed by a precious metal. Credit money is 1) legal tender, 2) backed by the confidence of people in the monetary system, and 3) the responsibility of the federal government to keep the supply under control. b) What are the desirable characteristics of metal coins? i. divisibility ii. non-perishable iii. portability iv. easy to recognize v. stable supply c) What is Gresham’s Law and why is it important in the story of the evolution of money? “Bad money chases good money out of circulation” People tend to hold on to the intrinsically valuable asset and trade the medium that has no intrinsic value, which is how commodity money systems were replaced with representative money systems. 3. Functions of Money a) Define “double coincidence of wants.” In a barter economy, an exchange is made only if both parties desire the good offered by the other. This makes a barter system inefficient. b) What are the 4 functions of money? i. Medium of exchange ii. Measure of value iii. Store of value iv. Medium to transfer payment into the future c) How many prices does a money economy with 10 goods need? 10 How many prices does a barter economy with 10 goods need? n(n-1)/2 = 10(9)/2 = 45 4. History of Banking 1
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