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Lecture 1

Economics 2154A/B Lecture Notes - Lecture 1: Money Supply, Opportunity Cost, Liquidity Preference

Course Code
ECON 2154A/B
Desmond Mc Keon

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Econ 2154 – Textbook Notes
Chapter 2
An Overview of the Financial System
Direct Finance – Borrowers borrow funds directly from leaders in financial
oBy selling them securities (financial Instruments)
oClaims on the borrower’s future income or assets
oSecurities are assets for the person who buys them, but liabilities for the
individual or firm that sells them
Debt and Market equities
oShort term – Less than a year
oLong Term – 10 years or longer
oIntermediate Term – Between 1 and 10 years
Primary Market
oNew issues are sold to initial buyers
oInitial sells to usually investment banks
oUnderwrites the security, by stating a price it would pay for it
Secondary market
oA financial market in which securities that have been previously issued
can be resold
oBrokers are agents of investors who match buyers with sellers
oDealers link buyers and sellers by buying and selling securities at stated
OTC Exchange
oOver the Counter exchange, dealers at different locations who have an
inventory of securities stand ready to buy and sell securities “Over the
Money Market
oA financial Market in which only short-term debt instruments are traded
Capital Market
oIs the market in which longer-term debt and equity instruments are traded
Treasury Bills
oShort-term debt instruments, issued in 1,2,6,12 Month maturities with
almost no possibility of default
Certificate of Deposit
oSame thing as a GIC
Commercial Paper
oUnsecured short-term debt instruments issued by large banks and well-
known corporations or large banks
Repurchase Agreements

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oEffectively short term loans for which T-bills Serve as collateral
Overnight Funds
oOvernight loans by banks to other banks
oLoans to households or firms to purchase housing, land or real structures
Mortgage backed securities
oA bond-like debt instrument which is backed by a bundle of individual
Corporate bond
oLong-term bonds issued by corporations with very strong credit ratings
Foreign Bonds
oForeign bonds are sold in a foreign country and are denominated in that
countries currency
oA bond denominated in a currency other than that of the country in which it
is sold (ex. Bond issued by a Canadian Corporation, denominated in
Japanese Yen, Sold in Germany
oForeign Currency deposited in Banks outside the home country
oUS dollars deposited in foreign banks outside the US or in foreign
branches of US banks
Asymmetric Information
oOne party often does not know enough about the other party to make
accurate decisions
Adverse Selection
oThe problem created by asymmetric information before the transaction
Moral Hazard
othe problem is created by asymmetric information after the transaction
Economies of Scope
oCan lower the cost of information production for each service by applying
one information resource to many different services
Financial Panic
oAsymmetric information can lead to the widespread collapse of financial
oProviders of funds may not be able to asses whether the institutions
holding their funds are sound or not

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Chapter 3
What is Money?
Meaning of money
oAnything that is generally accepted in payment for goods and services
oType of money consisting of bills and coins
oA flow of earnings per unit of time
oThe total collection of pieces of property that serves to store value
Medium of Exchange
oMoney in the form of currency or cheques that is used to pay for goods
and services
Unit of Account
oUsed to measure value in the economy
Store of Value
oRepository of purchasing power
oRelative ease and speed with which an asset can be converted into a
medium of exchange
oInflation rate exceeds 50% per month
Payments System
oThe method of conducting transactions in the Economy
Commodity Money
oMoney made up of precious metals or other valuable commodities
Fiat Money
oPaper currency decreed by governments as legal tender but not
convertible into coins or precious metals
oInstrument from your bank used to transfer money from your account to
someone else’s account when she deposits the cheque
Electronic Payment
oDevelopment of inexpensive computers now allow you to pay your bills
oMoney that exists in electronic form only
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