Chapter 15: Money and Banking

The Structure of the Fed

-Board of Governors -Reserve Banks -Open Market Committee -Member Banks -Other Depository Institutions

The Impact of Electronic Technologies

-Check 21: Making the Paper Check Go Away -Blink Credit Card -Debit Cards -Smart Card -E-Cash

Examples of Commercial Banks

-Citigroup -Bank of America -JP Morgan Chase

Types of Financial Institutions

-Commercial Banks -Savings Institutions -Savings and Loan Associations (S&Ls) -Mutual Savings Bank -Credit Unions

3 Services Offered By a Bank

-Currency Exchange -Letters of Credit -Banker's Acceptance

Non-Deposit Institutions Include

-Pension Fund -Insurance Companies -Finance Companies -Securities Investment Dealers (Brokers)

The Tools of the Fed

-Reserve Requirements -Interest Rate Controls -Open-Market Operations

The Functions of the Fed

-The Government's Bank -The Banker's Bank -Controlling the Money Supply

International Bank Structure

-World Bank -International Monetary Fund (IMF)

3 Functions of Money

1. It is a medium of exchange 2. It is a store of value. 3. It is a measure of worth.

International Monetary Fund (IMF)

A group of some 150 nations that have combined resources for the following purposes: • To promote the stability of exchange rates. • To provide temporary, short-term loans to member countries. • To encourage members to cooperate on international monetary issues. • To encourage development of a system for international payments.

Inflation

A period of widespread price increases throughout an economic system.

Pension Fund

A pool of funds that is managed to provide retirement income for its members.

Savings and Loan Associations (S&Ls)

Accept deposits, make loans, and are owned by investors (similar to commercial banks)

Insurance Companies

Accumulate money from premiums charged for coverage. -They invest these funds in stocks, real estate, and other assets. -Earnings pay for insured losses, such as death benefits, automobile damage, and healthcare expenses.

Mutual Savings Bank

All depositors are considered owners of the bank. -All profits are divided proportionately among depositors, who receive dividends.

Automated Teller Machines (ATMs)

Allow customers to withdraw money, make deposits, transfer funds between accounts, and access information on their accounts.

Check 21

Allows a receiving bank to make an electronic image of a paper check and electronically send the image to the paying bank for instant payment instead of waiting days for the paper check to wind its way back to the sender.

Checking Accounts

Bank account funds, owned by the depositor, that may be withdrawn at any time by check or cash.

Securities Investment Dealers (Brokers)

Buy and sell stocks and bonds for client investors. -They also invest in securities.

Commercial Banks

Company that accepts deposits that it uses to make loans, earn profits, pay interest to depositors, and pay dividends to owners.

Smart Card

Credit Card sized plastic card with an embedded computer chip that can be programmed with electronic money. • They are most popular in gas-pump payments, followed by prepaid phone service, ATMs, self-operated checkouts, vending machines, and automated banking services.

Consumer Finance Companies

Devote most of their resources to providing small noncommercial loans to individuals.

Debit Cards

Do not increase the funds at an individual's disposal but allow users only to transfer money between accounts to make retail purchases.

E-Cash

Electronic Money, moves via digital transmissions on the Internet and outside the established network of banks, checks, and paper currency overseen by the Fed.

Point of Sale (POS) Terminals

Electronic device that transfers funds from the customer's bank account to pay for retail purchases.

Check

Essentially an order instructing a bank to pay a given sum to a payee.

Currency (Cash)

Government-issued paper money and metal coins widely used for small exchanges.

Time Deposits

Have a fixed term, are intended to be held to maturity, cannot be transferred by check, and pay higher interest rates.

Public Pension Funds

Include Social Security and $3 trillion in retirement programs for state and local employees.

Savings Institutions

Include mutual savings banks and savings and loan associations.

M-2

Includes everything in M-1 plus other forms of money that are not quite as liquid - short-term investments that are easily converted to spendable forms - including time deposits, money market mutual funds, and savings accounts. -Accounts for most of the nation's money supply.

Money Market Mutual Funds

Investment companies buy a collection of short-term, low-risk financial securities.

Currency Exchange

It can exchange US dollars for Japanese yen to pay the supplier.

Money

Just about anything portable, divisible, durable and stable, and that serves as a medium of exchange, a store of value, and a measure of worth.

Commercial Finance Companies

Lend to businesses needing capital or long-term funds.

International Payments Process

Moves money between buyers and sellers on different continents is not subject to any worldwide policy system beyond loosely structured agreements among countries.

Credit Unions

Nonprofit, cooperative financial institutions owned and run by its members.

Barter Economy

One in which goods are exchanged directly for one another.

Private Pension Funds

Operated by employers, unions, and other private groups, cover about 40 million people and have total assets of $15 trillion.

Letters of Credit

Promises by the bank to pay the Japanese firm a certain amount if specified conditions are met.

Banker's Acceptance

Promises that the bank will pay some specified amount at a future date.

EFT Functions

Provide automatic payroll deposit, ATM transactions, bill payment, and automatic funds transfer.

Electronic Funds Transfer (EFT)

Provides for payments and collections by transferring financial information electronically.

World Bank

Provides only very limited scope of services. • It funds national improvements by making loans to build roads, schools, power plants, and hospitals. • The resulting improvements eventually enable borrowing countries to increase productive capacity and international trade.

Open-market Operations

Refer to the Fed's sale and purchase of securities (usually US Treasury notes and bonds) in the open market, as directed by the open-market committee.

Federal Funds Rate (Key Rate)

Reflects the rate at which commercial banks lend reserves to each other and, therefore, to consumers.

Finance Companies

Specialize in making loans to businesses and consumers

Federal Deposit Insurance Corporation (FDIC)

Supervises banks and insures deposits in banks and thrift institutions.

Individual Retirement Accounts (IRAs)

Tax-deferred pension funds that wage earners and their spouses can set up to supplement other retirement funds.

Discount Rate

The interest rate on loans to banks by the Fed.

Trust Services

The management of funds left in the bank's trust (many commercial banks offer this).

Federal Reserve System (The Fed)

The nation's central bank, established by Congress in 1913.

M-1

The oldest and most basic measure, counts only the most liquid, or spendable, forms of money - cash, checks, and checking accounts.

Reserve Requirements

The percentage of its deposits that a bank must hold, in cash or on deposit, with a Federal Reserve Bank.

Main function of financial institutions

To ease the flow of money from users with surpluses to those with deficits by attracting funds into checking and savings accounts.

Non-Deposit Institutions

Use inflowing funds for purposes other than earning interest for depositors.

The International Payments Process

o If trade between the two countries is in balance - if money inflows and outflows are equal for both countries - then money does not actually have to flow between the 2 countries. o If inflows and outflows are not in balance at the US bank, then a flow of money is made to cover the difference.

Anti-Terrorism Regulations

o The enforcement of the Bank Secrecy Act (BSA), enacted in 1970, includes tracking reporting on suspicious transactions, such as a sudden increase in wire transfers or cash transactions exceeding $10,000, to cut off funding of terrorist activities. o The USA PATRIOT Act, passed in 2001 and designed to reduce terrorism risks, requires banks to obtain and verify every customer's name, address, date of birth, and Social Security (or tax identification) number. o They must also implement a customer identification program (CIP) to verify identities, keep records of customer activities, and compare identities of new customers with government terrorist lists.

Blink Credit Card

• "Blink" technology uses a computer chip that sends radio-frequency signals in place of the magnetic strips that have been embedded in credit cards for the past 30 years. • The "contactless" payment system lets consumers wave the card in front of a merchant's terminal, at a gas pump or in a department store, without waiting to swipe and sign.

Member Banks

• All nationally chartered commercial banks and some state-chartered banks are members of the Fed.

Other Depository Institutions

• Although many state-chartered banks, credit unions, and S&Ls do not belong to the Fed, they are subject to its regulations, pay deposit insurance premiums, and are covered by the FDIC.

High Requirements vs. Low Requirements

• High requirements mean that banks have less money to lend and the money supply is reduced. • Low requirements permit the supply to expand.

Interest Rate Controls

• If the Fed wants to reduce the money supply, it increases the discount rate, making it more expensive for banks to borrow money and less attractive for them to loan it. • Low rates encourage borrowing and lending and expand the money supply. • Feds have the authority to pay interest on commercial bank reserves.

The Bankers' Bank

• Individual banks can borrow from the Fed and pay interest on the loans. • In addition, the Fed provides storage for commercial banks, which are required to keep funds on reserve at a Federal Reserve Bank.

Open-Market Operations Include

• Open-market operations are particularly effective because they act quickly and predictably on the money supply. • The Fed buys securities from a dealer, whose bank account is credited for the transaction. • Its bank has more money to lend, so this transaction expands the money supply. • T-bills are known as discount bonds because they do not pay interest periodically but are sold at a discount and pay out the face value on maturity.

Reserve Banks

• The Fed consists of 12 districts. • Each Federal Reserve Bank holds reserve deposits from and sets the discount rate for commercial banks in its geographic region. • Reserve Banks also play a major role in the nation's check-clearing process.

Controlling the Money Supply

• The Fed is responsible for the conduct of US monetary policy: the management of the nation's economic growth by managing the money supply and interest rates to influence the ability and willingness of banks throughout the country to loan money. • Inflation Management

The Government's Bank

• The Fed produces the nation's paper currency and decides how many bills to produce and destroy. • It also lends money to the government by buying bonds issued by the Treasury Department to help finance the national deficit.

Open Market Committee

• The Federal Open Market Committee is responsible for formulating the Fed's monetary policies to promote economic stability and growth by managing the nation's money supply. • Its members include the Board of Governors, the president of the Federal Reserve Bank of New York, and the presidents of four other Reserve Banks, who serve on a rotating basis.

The Board of Governors in the Fed

•Consists of 7 members appointed by the president for overlapping terms of 14 years. •The chair of the board serves on major economic advisory committees and works actively with the administration to formulate economic policy. •The board plays a large role in controlling the money supply.