M&C Exam 4

Foreign Exchange Market

A Global Market decentralized or over-the-counter market for the trading of currencies. This market determines the foreign exchange rate. It includes all aspects of buying, selling and exchanging currencies at current or determined prices.

Political Business Cycle

A business cycle that results primarily from the manipulation of policy tools (fiscal policy, monetary policy) By incumbent politicians hoping to stimulate the economy just prior to an election and thereby greatly improve their own and their party's reelection chances.

Depreciation

A decrease or loss in value of an asset or currency

Primary Dealers

A firm that buys government securities directly from a government, with the intention of reselling them to others, thus acting as a market maker of government securities.

Quotas

A government-imposed trade restriction that limits the number or monetary value of goods that a country can import or export during a particular period. Countries use this in international trade to help regulate the volume of trade between them and other countries

Easing of monetary policy

A lowering of the federal funds rate

Zero-Lower-Bound Problem

A macroeconomic problem that occurs when the short-term nominal interest rate is at or near zero, causing a liquidity trap and limiting the capacity that the central bank has to stimulate economic growth.

Marginal Lending Facility

A monetary policy instrument of the euro system which offers commercial banks the opportunity to procure, against eligible collateral and at a specified interest rate for one business day, liquidity (overnight loans) from the ECB.

Inflation Targeting

A monetary policy regime in which a central bank has an explicit target inflation rate for the medium term and announces this inflation target to the public.

Reverse Transactions

A new transaction that replicates the original transaction, but with debit amounts shown as credit amounts and vice versa.

Interest Parity Condition

A no-arbitrage condition representing an equilibrium state under which investors will be indifferent to interest rates available on bank deposits in two countries.

Forward Transaction

A non-standardized transaction between two parties to buy or to sell an asset at a specified future time at a price agreed upon today, making it a type of derivative instrument.

Matched Sale-Purchase Transaction

A practice in which the Federal Reserve sells government securities with the proviso that it will buy back these same securities from the same party at the same price, usually within a week or two.

Longer-Term Refinancing Operations

A process by which the ECB provides financing to eurozone banks. The ECB also provides liquidity to banks through its main refinancing operations, which have two-week and one-month maturities.

Deposit Facility

A program through which the Federal Reserve Banks offer interest-bearing term deposits to eligible institutions.

Tightening of monetary policy

A rise in the federal funds rate

Taylor Rule

A rule developed by John Taylor that links the Fed's target for the federal funds rate to economic variables

Credit Easing

A strategy that central banks use to ease credit conditions in the economy by buying private sector assets.

Tariffs

A tax on imports or exports between sovereign states. It is a form of regulation of foreign trade and a policy that taxes foreign products to encourage or period domestic industry. This is historically used to protect infant industries and to allow import substitution industrialization.

Intermediate Target

A variable (such as the money supply) that is not directly under the control of the central bank, but that does respond fairly quickly to policy actions, is observable frequently and bears a predictable relationship to the ultimate goals of policy.

Operating Instrument

A variable that is very responsive to the central bank's tools and indicates the stance of monetary policy (also called a policy instrument)

Capital Mobility

Ability of the private funds to move across national boundaries in pursuit of higher returns. This mobility depends on the absence of currency restriction on the inflows and outflows of capital.

Repurchase Agreement

Also known as a REPO, is a form of short-term borrowing, mainly in government securities. The dealer sells the underlying security to investors and buys them back shortly afterwards, usually the following day, at a slightly higher price.

Appreciation

An increase in the value of an asset or currency over time

Discount Window

An instrument of monetary policy (usually controlled by central banks) that allows eligible institutions to borrow money from the central bank, usually on a short-term basis, to meet temporary shortages of liquidity caused by internal or external disruptions.

Policy Instrument

Are interventions made by government/public authorities in local, national or international economies which are intended to achieve outcomes which conform to the objectives of public policy.

Simple Deposit Multiplier

Assumes that banks hold no excess reserves and that the public holds no currency. ∆D = (1/rr) × ∆R, where ∆D = change in deposits; ∆R = change in reserves; rr = required reserve ratio.

Open Market Operations

Buying & Selling government Securities & Bonds to change the supply of money

Excess Reserves

Capital reserves held by a bank or financial institution in excess of what is required by regulators, creditors or internal controls

Theory of Purchasing Power Parity

Exchange rates between any two currencies will adjust to reflect changes in the price levels of the two countries A way of measuring economic variables in different countries so that irrelevant exchange rate variations do not distort comparisons

Federal Open Market Committee (FOMC)

Federal Reserve committee that makes key decisions about interest rates and the growth of the United States money supply

Overnight Cash Rate

Generally the interest rate that large banks use to borrow and lend from one another in the overnight market.

Reserves

Holdings of deposits in accounts with a central bank, plus currency that is physically held in the bank's vault

Money Multiplier

How much the money supply changes for a given change in the monetary base

Price Stability

In an economy this means that the general price level in an economy does not change much over time. In other words, prices neither go up or down; there is no significant degree of inflation or deflation

Nominal Anchor

In monetary policy it is a single variable or device which the central bank uses to pin down expectations of private agents about the nominal price level or its path or about what the central bank might do with respect to achieving that path.

Defensive Open Market Operations

Intended to offset movements in other factors that affect reserves and the monetary base, such as changes in Treasury deposits with the Fed or changes in float

Federal Funds Rate

Interest rate banks charge each other for loans

Phillips Curve Theory

Is an economic concept developed by A. W. Phillips stating that inflation and unemployment have a stable and inverse relationship. The theory claims that with economic growth comes inflation, which in turn should lead to more jobs and less unemployment

Nontradeable

Items which are not traded internationally. If the setting of the price takes place by supply and demand in the local market, the good should be considered non-tradable

Management of Expectations

Keeping Federal Funds Rate at 0 for an extended period, The fed could lower the Markets expectations of future short-term interests rates

Money Multiplier Formula

M = m * MB

Hierarchical Mandates

Makes price stability the primary objective for monetary policy and subordinates other potential objectives.

Non-conventional Monetary Policy Tools

Measures fall out of the scope of traditional ways that central banks and other monetary authorities use during times of deep economic distress.

Standing Lending Facility

Monetary policy operations which are initiated by central banks' counterparties (as opposed to open market operations, which are initiated by central banks).

Natural Rate of Output

Occurs when all available resources are used efficiently. It equals the highest level of production an economy can sustain

Natural Rate of Unemployment

Often defined as the lowest rate of unemployment an economy will reach. It is "natural" because its causes are things other than the problems caused by a bad economy.

Potential Output

Refers to the highest level of real gross domestic product that can be sustained over the long term.

Marginal Lending Rate

Refers to the minimum interest rate of a bank below which it cannot lend

Required Reserves

Reserves that a bank is legally required to hold, based on its checking account deposits

Float

Resulting temporary net increase in the total amount of reserves in the banking system caused by the Feds check clearing process

Dynamic Open Market Operations

Sale or purchase transactions carried out to achieve the target federal funds rate as directed FOMC Open market operations that are intended to change the level of reserves and the monetary base

Required Reserve Ratio

Sets the minimum amount of reserves that must be held by a commercial bank.

Real Exchange Rate

Tells how much the goods and services in the domestic country can be exchanged for the goods and services in a foreign country.

Forward Guidance

Term used by central banks to communicate what their future monetary policy will be.

Board of the Federal Reserve System

The Board of Governors -Located in Washington, D.C. -Is the governing body of the Federal Reserve System. It is run by SEVEN members, or "governors," who are nominated by the President of the United States and confirmed in their positions by the U.S. Senate.

Goal Independence

The ability of a central bank to set monetary policy GOALS

Instrument Independence

The ability of the central bank to set monetary policy INSTRUMENTS

Macroprudential Regulation

The approach to financial regulation that aims to mitigate risk to the financial system as a whole

Federal Reserve Banks

The central bank system of the United States that includes the Board of Governors in Washington, D.C., and 12 independent regional Reserve banks. This decentralized structure ensures that the economic conditions of all areas of the country are taken into account in the making of monetary policy.

Borrowed Reserves

The difference between the amount of money a bank has borrowed from the Fed and the cash reserves the bank holds above the required minimum.

Forward Exchange Rate

The exchange rate at which a bank agrees to exchange one currency for another at a future date when it enters into a forward contract with an investor

Spot Exchange Rate

The exchange rate at which a foreign exchange dealer will convert one currency into another that particular day

Main Refinancing Operations

The interest rate banks pay when they borrow money from the ECB for one week. When they do this, they have to provide collateral to guarantee that the money will be paid back.

Target Financing Rate

The interest rate charged by one depository institution on an overnight sale of balances at the Federal Reserve to another depository institution, as determined by the Federal Open Market Committee (FOMC) of the Federal Reserve. This rate is often related to the risk-free rate in an economy.

Quantitative Easing

The introduction of new money into the money supply by a central bank.

Exchange Rate

The measure of how much one currency is worth in relation to another.

Discount Rate

The minimum interest rate set by the Federal Reserve for lending to other banks.

Time-Inconsistency Problem

The problem that occurs when monetary policymakers conduct monetary policy in a discretionary way and pursue expansionary policies that are attractive in the short run but lead to bad long-run outcomes A situation in which a decision-maker's preferences change over time in such a way that a preference can become inconsistent at another point in time.

Open Market Purchase

The purchase of government bonds from the public by the Fed for the purpose of: Increasing the supply of bank reserves and the money supply

Spot Transaction

The purchase or sale of a foreign currency, financial instrument or commodity for instant delivery. The difference in price of a future or forward transaction versus a spot transaction, Spot takes into account the time value of the payment, based on interest rates and time to maturity.

Non-borrowed Monetary Base

The remainder of the base under the Fed's control because it results primarily from open market operations

Open Market Sale

The sale of US government bonds by the FED to reduce the money supply

High-Powered Money

The sum of currency and bank reserves; also called the Monetary Base.

Monetary Base

The total amount of bank notes and coins circulating in the economy.

Dual Mandate

The twin responsibilities of the Federal Reserve, to use monetary policy to ensure price stability and maintain full employment The practice in which elected officials serve in more than one elected or other public position simultaneously.

Taylor Principle

This rule says that an increase in inflation by one percentage point should prompt the central bank to raise the nominal interest rate by more than one percentage point

Lender of Last Resort

Usually a country's central bank, that offers loans to banks or other eligible institutions that are experiencing financial difficulty or are considered highly risky or near collapse.

Multiple Deposit Creation

When the Fed supplies the banking system with $1 of additional reserves, deposits increase by a multiple of this amount

Asset-Price Bubble

When the price of an asset, such as housing, stocks or ​gold, become over-inflated. Prices rise quickly over a short period. They are not supported by an underlying demand for the product itself. It's a bubble when investors bid up the price beyond any real sustainable value.

Non-accelerating inflation rate of unemployment (NAIRU)

no formula for calculating a NAIRU level, the Federal Reserve uses statistical models and estimates that the NAIRU level is somewhere between 5% to 6% unemployment. NAIRU plays a role in the Fed's dual mandate objectives of achieving maximum employment and price stability.

Conventional Monetary Policy Tools

open market operations, discount lending, and reserve requirements—to control the money supply and interest rates.