Ch. 3 What is Money?

Is economics the study of money?

Although economics is often mistakenly described as the study of money, our understanding of money has not advanced much since the ancient Greeks. Aristotle documented the functions of money.

Are checking accounts considered money?

Checking accounts are also considered money.

What is currency?

Currency, i.e. paper money and coins, is one form of money.

What does the broad definition of money, M2 include?

Everything in M1 Savings accounts Money market funds

What is Fiat Money?

Governments also started to circulate pieces of paper that could be exchanged for gold. In the 20th Century, governments realized the gold played no actual role in the transaction. They stopped exchanging paper money for gold. The paper money had value because the government said it had value. It has value by fiat.

How may times will the average dollar be used in a year?

If money is used for all transactions in the economy, then an average dollar will be used V = PY/M times in a year.

According to the quantity theory of money, how can the government fix the overheating of the economy?

If the economy is overheating, the government can fix that by shrinking the money supply.

How were Checks developed?

In Europe, large amounts of money in gold and silver became very heavy. This was especially true after the discovery of gold in the New World reduced the value of gold. Banks arose, and people left their gold at the bank. People could write checks that recipients could exchange for gold at the bank. The recipient of a check could also exchange the check for goods and the new recipient could collect the gold.

Double Coincidence of Needs

In order for trade to occur in a barter economy, two people have to meet who both have something the other wants.

What is income?

Income is the flow of purchasing power into a household or agency.

What is money?

Money is anything that is generally accepted as payment for goods or services or to repay debts.

How is Money is Memory?

Money is like the electricity in a giant analog computer with storage addresses at all of our wallets and bank accounts. Your account gets topped up when you work, increasing by the value of your product. Every purchase is a corresponding debit from your account. One source of inefficiency is that your wallet cannot hold negative amounts of cash.

What is money used for?

Money is used to facilitate transactions.

Are money, income and wealth the same thing?

Money, income, and wealth are synonyms according to the dictionary, but economists view them as completely separate concepts.

What did Friedman and Schwarz observe about the relationship between GDP and the money supply?

Movements in GDP and the money supply were very similar, and movements in the money supply were slightly ahead of movements in GDP.

What are Desirable Properties of Money?

Must be widely accepted, or it is not money. Easily valued. Dollar bills have denominations all over them. When gold was money, the value of a coin depended on its gold content. Coins had to be weighed to determine their value. People would shave off the edges of the coin and melt the shavings into new coins. Isaac Newton ordered the edges of coins be ridged to prevent this. Divisibility Money needs to be divisible to make it easy to make change. Old coins called pieces of eight were perforated so you could break a coin in half to split it. Portability We ultimately stopped using gold as money because it was too heavy. Paper money is light and we now make coins out of light metals. Nonperishability Money needs to last because a long time may pass before you spend it. Fruits and vegetables would not be good monies. Cows and other livestock have often been used as money, but they reproduce.

Why does the quantity theory of money breakdown in recent times?

Now people are very responsive to policy changes when deciding how much money to hold.

Why is there no consensus about how we should measure the money supply?

Since what constitutes money is determined by people's behavior.

How is money a store of value?

Store of value Money can save purchasing power from the time it is earned till the time it is spent.

What affects the reliability of money data?

The Fed frequently revises its estimates of monetary aggregates. Depository institutions are not required to frequently report the size of their deposits. Seasonal adjustments are revised as more data becomes available.

What is the oldest theory of money?

The oldest theory of money is the quantity theory of money. Copernicus first described a quantity theory.

What is money's primary function?

The primary function of money is that money is a medium of exchange.

What two measures does the Fed provide for the money supply?

There is a narrow measure counting "monies" that all economists would agree are money. There is a broad measure counting "monies" that some economists would agree are money. The truth is somewhere in between.

How is money different from nonperishable goods?

These are functions that any nonperishable good can serve but that money must serve.

What effects does Electronic Money have on paper currency?

Today people can make purchases by withdrawing money directly from checking accounts with debit cards. In the future, it is likely that currency will be phased out and all money will be electronic. Already, the main function of currency is to facilitate illegal transactions that cannot involve banks. Bitcoin was invented to replace official currency.

What does money measure?

Unit of account Money measures the value of goods and services. It is our numeraire.

What is wealth?

Wealth is stock of a household or agency's purchasing power.

What does the Quantity Theory of Money assume?

assumes that the frequency with which money changes hands is a property of the economy and its financial technology.

According to the quantity theory of money, how can the government increase GDP If there is a recession?

by increasing the money supply.

According to the Quantity Theory of Money, v should be what?

constant, in which case nominal GDP is proportional to the money supply.

How difficult is seasonal variation to remove from monetary aggregates?

difficult to remove.

Why was quantity theory was closer to the truth in the past?

financial innovation was slow.

According to the quantity theory of money, How much control policymakers have over nominal GDP?

full control over nominal GDP.

In Friedman and Schwarz' book what did they observe about the velocity of money from 1867 to 1960

it was fairly constant.

What does the narrow definition of money, M1 include?

liquid assets: Currency Checking account deposits Traveler's checks

What did the monetarist school conclude about what the business cycle resulted from?

monetary policy failures.

How seriously should short-run movements in monetary aggregates be taken?

not too seriously. These errors tend to cancel out over the course of a year.

What does Y denote?

real GDP. The total amount of goods and services produced in the United States.

What does M denote?

the money supply.

What does P denote?

the price level. Average price of goods in the United States. PY is nominal GDP.

What does v denote?

v is known as the velocity of money.

What ratio does v represent?

v is the ratio of nominal GDP to the money supply

Why does the quantity theory of money remain the basis for most of our intuition about monetary policy despite the fact that its not true?

we have not found a theory to replace it

What issue does money resolve in a barter economy?

when there isn't a double coincidence of needs.