Williamson_3e_IM_15 - Chapter 15 Money Inflation and...

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Chapter 15 Money, Inflation, and Banking ± Teaching Goals In the modern world, the use of money as a social contrivance is largely taken for granted. Although study of the mechanisms of trading may seem rather arcane, it may open some of the students’ minds to the value of adopting a uniform medium of exchange. Students should fully understand that a world of rugged individualism in which everyone is self-sufficient is the most likely alternative to a monetary economy. The level of the money supply is neutral. The growth rate of the money supply has allocative effects on the economy. Continuous growth in the money supply causes inflation. Inflation erodes money’s usefulness as a medium of exchange. As inflation worsens, households substitute nonmarket activities, which require no money, for market activities that do require money. Therefore, as the inflation rate increases, output and employment decrease. Financial intermediation is an important topic for macroeconomists because of the role of financial intermediaries in providing a medium of exchange, and because the interactions between central banks and financial intermediaries is an important component of the money supply process. Financial intermediaries acquire illiquid assets in the form of loans and transform these assets into more liquid assets preferred as media of exchange. The Diamond-Dybvig model is a useful tool that demonstrates how banks might offer insurance against an untimely need for liquidity. The Diamond-Dybvig model is also useful in explaining bank runs and how government-provided deposit insurance may prevent such runs . ± Classroom Discussion Topics An important tenet of monetary economics is the dominance of monetary economies over economies without a commonly accepted medium of exchange. Yet we still find the existence of barter clubs. These clubs sometimes arrange direct one-for-one trades between individuals or businesses that have a double coincidence of wants. Sometimes they arrange three-way transactions similar to those depicted in Figure 15.2 in the text. Some of these clubs utilize credits that circulate as a private medium of exchange between members. To find some examples, suggest a Google™ search on the term, “barter.” Ask if any of the students have heard of such arrangements or even participated in them. Are the users of these services irrational? Does the existence of such organizations suggest that monetary exchange is becoming outdated?
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144 Williamson • Macroeconomics, Third Edition The widespread use of computer technology has lowered the information costs associated with barter exchange. But such technology also reduces the cost of engaging in monetary transactions. The marketing materials of these exchanges emphasize that they allow businesses to buy necessary products and services without the need for cash. Does this mean that barter exchange can combine credit exchanges with goods and services exchanges? The marketing also promises a source of new business for members. In a perfectly competitive world, there is no need to find more customers. Does this mean that barter
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Williamson_3e_IM_15 - Chapter 15 Money Inflation and...

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