Lecture 13 Chapter 15 & 16 D2L 2011

Lecture 13 Chapter 15 & 16 D2L 2011 - Fin 320...

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Fin 320 Chapters 15 & 16: Central Banking Lecture 13 1
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Introduction The world’s leading central banks played a key role in bringing the financial system and the economy back to safe harbor after the peak of the financial crisis in 2008. They acted in unprecedented fashion to prevent the financial system from capsizing and, over time, to restore financial an economic stability. 2
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Introduction The central bank of the U.S. is the Federal Reserve (Fed). The people who work there are responsible for making sure that our financial system functions smoothly so that the average citizen can carry on without worrying about it. 3
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The Government’s Bank As the government’s bank, the central bank has a privileged position: It has the monopoly on the issuance of currency. The central bank can control the availability of money and credit in a country's economy. Most central banks go about this by adjusting short- term interest rates: monetary policy . They use it to stabilize economic growth and information. 4
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The Banker’s Bank As the banker’s bank, the central bank took on the roles it plays today: 1. Provide loans during times of financial stress, 2. Manage the payments system, and 3. Oversee commercial banks and the financial system. The ability to create money means that the central bank can make loans even when no one else can. 5
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The Banker’s Bank It is essential that we understand what a central bank is not . It does not control securities markets, though it may monitor and participate in bond and stock markets. It does not control the government’s budget. That is determined by Congress and the president through fiscal policy . The Fed only acts as the Treasury’s bank. 6
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The Functions of a Modern Central Bank 7
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Stability: The Primary Objective of All Central Banks Low and stable inflation High and stable growth Stable financial markets Interest-rate stability Exchange-rate stability 8
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Central Bank Objectives: Low & Stable Inflation Strive to Control inflation A dollar should always be worth a dollar Prices are central to a market economy Allocating resources to their best uses Inflation makes it more difficult to tell High inflation is less predictable 9
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Central Bank Objectives: High & Stable Real Growth Support maximum sustainable growth Stable countries grow faster Unstable growth creates risk Unstable growth drives up interest rates Higher interest rates mean lower borrowing Less borrowing means less investment Less investment means less growth 10
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High & Stable Real Growth The idea is that there is some long-run sustainable level of production called potential output , which depends on things like Technology, The size of the capital stock, and The number of people who can work.
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