ECO102H1 Lecture 36: Lecture 36-Money

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copperclam445

1 Aug 2010

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Course

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Tuesday, March 9th, 2010.

Money

(Canada: Currency + Bank Deposit)

1. Purposes

I. Medium of Exchange

II. Store of Value

III. Unit of Account

2. Alternative to Money: Barter (very inefficient)

Banking System

1. Central Bank (Bank of Canada)

Uses control of money supply and interest rates to influence Aggregate Demand

2. Commercial Banks

Create money as by-product of profit-seeking activities

How do Banks Create Money?

Simplifying Assumptions

1. All banks have same desired/target reserve ration *

2. No cash drain (amount of cash held by public is fixed) *

3. Bank capital is zero (for numerical examples)

* Important assumptions

Desired Reserve Ratio of Bank

Simple Balance Sheet

Assets (A) Liabilities (L)

Reserves 40 Deposits 400

Loans 360

Reserves = Vault Cash + Deposits at Bank of Canada

Reserves earn low or zero interest

Loans earn market interest rate

Desired Reserve Ratio = Desired Reserves / Deposits

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Related Questions

Commercial banks create money when they:

(i) accept cash deposits from the public.
(ii) purchase government securities from the central banks.
(iii) create checkable deposits in exchange for IOUs.
(iv) raise their interest rates.

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In a 100 percent reserve banking system, banks:

(i) can create a money supply indefinitely.

(ii) can create a money supply only by the multiple of 100.

(iii) cannot create a money supply at all.

(iv) none of the above.

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Legal reserve requirements:

A. give commercial banks more legal control over the money supply

B. limit "windfall" profits in the commercial banking system

C. permit the Federal Reserve System to control the lending capacity of banks.

D. provide the FDIC with the power to protect deposits at commercial banks and thrifts

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ECO102H1 Lecture 36: Lecture 36-Money

ECO102H1 Full Course Notes

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