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Lecture 15

ECON 1102 Lecture Notes - Lecture 15: Federal Reserve System, Open Market Operation, Mutual Fund

7 pages29 viewsSpring 2016

Course Code
ECON 1102
Phelan Christopher

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Macro Chapter 15
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Chapter 15: The Federal Reserve System and Open Market Operations
I. What is the Federal Reserve System
A. Today, the money we use in the United States is provided by just one bank, the Federal
B. If the Federal Reserve is a bank, who are its customers?
1. The Fed is both the government’s bank and the banker’s bank.
a) As the government’s bank, the Fed maintains the bank account of the U.S.
Treasury. When you write a check to the IRS to pay your taxes, the money ends
up in the Treasury’s account at the Fed. In addition to receiving money, the U.S.
Treasury also borrows a lot of money and the Fed manages this borrowing—that
is, the Fed manages the issuing, transferring, and redeeming of U.S. Treasury
bonds, bills, and notes. Since the U.S. Treasury is by far the world’s largest bank
customer—it has more income and it also borrows more than any other bank
customer—the Federal Reserve is a large and powerful bank.
b) The Fed is also the banker’s bank. Large private banks keep their own accounts
at the Fed—in part, because some banks are required to hold accounts with the
Federal Reserve and in part because other banks and financial institutions want
a safe and convenient place to hold their money. The Fed also regulates other
banks and it lends money to other banks.
c) The Fed manages the nation’s payment system—the system of accounts that
makes it possible to write checks from one bank to another—and it protects
financial consumers with disclosure regulations. Many of these and other duties
are shared with other state and federal agencies.
II.The U.S Money Supplies
A. Money: a widely accepted means of payment
B. The most important assets that serve as means of payment in the United States today
1. Currency—paper bills and coins.
2. Total reserves held by banks at the Fed.
3. Checkable deposits—your checking or debit account.
4. Savings deposits, money market mutual funds, and small-time deposits.
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Macro Chapter 15
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D. Currency is coins and paper bills (Federal Reserve Notes) held by people and nonbank
1. If you look at the total for currency (almost $1.2 trillion) and divide it by the American
population (about 300 million, rounding down), that amounts to about $4,000 per
person (and even more per adult).
E. “Total reserves” held by banks at the Fed is the means of payment you probably don’t
have personal experience with, but total reserves play a very important role in the
financial system. All major banks have accounts at the Federal Reserve System—
accounts that they use for trading with other major banks and for dealings with the Fed
itself. It’s not currency in these accounts but electronic claims that can be converted into
currency if the bank wishes.
F. Checkable deposits are just like they sound, namely deposits that you can write checks
on or can access with a debit card. These are the sorts of deposits we use most often in
making daily transactions. Often these are also called demand deposits because you
can access this money “on demand.”
G. The largest means of payment are savings accounts, money market mutual funds, and
small-time deposits (also called certificates of deposit or CDs). Each of these
components can be used to pay for goods and services, but typically with a little bit of
extra work or trouble. Payments from a savings account can be made, for example, by
first transferring the money to a checkable account. A money market mutual fund is a
mutual fund invested in relatively safe short-term debt and government securities.
Money market mutual funds typically allow you to write some number of checks per year
or you can always sell part of your fund and transfer the money to a checkable account.
Small-time deposits cannot be withdrawn without penalty before a certain time period
has elapsed, usually six months or a year.
H. liquid asset an asset that can be used for payments or, quickly and without loss of
value, be converted into an asset that can be used for payments
1. Currency is usually the most liquid asset since currency can be spent almost
2. Checkable deposits and reserves are also very liquid, since they can also be spent
easily and they can be turned into currency without loss.
3. Money market mutual funds and time deposits are less liquid since sometimes it
takes time and a little bit of trouble to turn these assets into currency or checkable
deposits. It’s possible to use even less liquid assets as a means of payment (we will
take your house in return for, say, a copy of this textbook), but it is inconvenient.
I. Economists have created many definitions of the money supply. The three most
important are:
1. The monetary base (MB): Currency and total reserves held at the Fed
2. Ml: Currency plus checkable deposits
3. M2: Ml plus savings deposits, money market mutual funds, and small time deposits
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