MGEC71H3 Study Guide - Final Guide: Capital Market, Monetary Policy, Commercial Paper

Economics for Management Studies
Course Code
Jack Parkinson
Study Guide

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CMC48 -1
Chapter 1
*Why study financial market?
- Financial market: markets in which funds are transferred from people who have excess of
available funds to people who have a shortage
- Financial Market channel funds from savers to investorspromote economic efficiency
- It affects personal wealth and behaviour of business
- Well-functioning financial markets are a key factor in producing high economic growth
*The bond market and interest rates
- Security(Financial Instrument): a claim on the issuers future income or assets
- Assets: any financial claim or piece of property that is subject to ownership
- Bond: a debt security that promises to make payments periodically for a specified period of time
- The bond market is where interest rates are determined
- Interest Rate: the cost of borrowing or the price paid for the rental of funds
(Mortgage, car loan interests) the price over time of borrowing money
- Higher Interest Ratedeter purchases or investment, and encourage savings
deter (prevent) you from buying a car or house & encourage you to save
- Interest rates have an impact on the overall economy because they affect not only consumers
willingness to spend or save but also businesses investment decisions
- Short-term interest rates tend to fluctuate more and are lower on average than others
- Prior to 1980, the rate of money growth and the interest rate on long-term bonds were closely
tied together
*The Stock Market
- Common Stock(Stock): represents a share of ownership in a corporation
- Stock: A security that is a claim on the earnings and assets of the corporation
- Issue & sell stocksa way for corporation to raise funds to finance activities
- Stock Market: where the earnings of corporation(share of stock) are traded
A place where people get rich and poor quickly with considerable fluctuations in stock prices
- Stock prices are extremely volatile(unstable)
- The stock market is also an important factor in business investment decisions because the price
of shares affects the amount of funds that can be raised by selling newly issued stock to finance
investment spending
*Why study financial institutions and banking?
- Banks and other financial institute are what make financial markets work
- Without them, financial markets would not be able to move funds from people who save to
people who have productive investment opportunities

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CMC48 -2
*Structure of the Financial System
- Financial institutions: banks, insurance companies, mutual funds, finance companies,
investment banks(regulated by government)
- Financial Intermediaries: institutions that borrow funds from people who have saved and in
turn make loans to others (Indirect Finance)
- Financial Crises: major disruptions in financial markets that are characterized by sharp declines
in asset prices and failure of many financial and nonfinancial firmscan cause significant shor
term disruptions in the real economy(non neutrality)
*Bank and Other Financial Institutions
- Banks: financial institutions that accept deposits and make loans
- Including chartered banks, trust, mortgage loan companies, credit unions, caisses popularities
*Financial Innovation
- Dramatic improvements in information technology have led to new means of delivering financial
services electronically and higher profits result from creative thinking
- ATM(automated teller machine)
- E-Finance: delivering financial services electronically
- The innovations impact the velocity of money (MV=PY)
*Why study money and monetary policy?
- Money: anything that is generally accepted in payment for goods or services or in the
repayment of debts
*Money and Business Cycle
- Business cycle: movements in aggregate real output and unemployment
- Aggregate output: total production of goods and services
- Unemployment Rate: the % of the available labour force unemployed
- Money plays an important role in generating business cycle, the upward and downward
movement of aggregate output produced in the economy
- Recessions: periods of declining aggregate output
- Monetary Theory: the theory that relates changes in the quantity of money to change in
aggregate economic activity and the price level
*Money and Inflation
- Aggregate price level(price level): the average price of goods and services in an economy
- Inflation: a continual increase in the price level, affects individuals, businesses, and the
- inflation is generally an important problem of concern to politicians and policymaker
- The price level and the money supply generally move closely together

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CMC48 -3
- QTM implies the continuing increase in the money supply might cause the continuing increase in
the price level
- Inflation is always a monetary phenomenon everywhere
- Inflation rate: the rate of change of the price level
- Recessions(unemployment) and booms(inflation) lead to changes in aggregate economic activity
*Conduct of Monetary Policy
- Every recession in the 20th century has been preceded by a decline in the rate of money growth,
indicating that changes in money are also a driving force behind business cycle fluctuations
- Not every decline in the rate of money growth is followed by a recession
- Monetary policy: the management of money supply and interest rates
- Central Bank: the organization responsible for the conduct of a nations monetary policy
- Central Bank Canada: Bank of Canada = the Bank
*Fiscal Policy and Monetary Policy
- Fiscal policy: decisions about government spending and taxation
- Budget Deficit: government expenditures > tax revenues for a particular time period
- Budget Surplus: tax revenues > government expenditures
- Any deficit is usually financed solely by borrowing
- Deficits increase the national debt and make vulnerable(weak) to increase in world interest rate
- Some believe the ability to issue public debt allows the government to smooth taxes and
inflation over time
- Large budget deficit might lead to a financial crisis and result in a higher rate of money growth, a
higher inflation, and higher interest rates
*The foreign exchange market
- Exchange market: where funds to be transferred from one currency to another
- Exchange rate: the price of one countrys currency in terms of anothers
- 2 ways of quoting exchange rate:
As the amount of domestic currency that can be purchased with a unit of foreign currency
As the amount of foreign currency that can be purchased with a unit of domestic currency
- Appreciation: when the exchange rate increases so that a CND dollar buys more units
- Depreciation: when the exchange rate declines so that a CND dollar buys more units
- A change in the exchange rate has a direct effect on Canadian consumers because it affects the
cost of foreign goods
- When the value of the dollars drops, Canadians decrease their purchases of foreign goods and
increase their consumption of domestic goods
- A strong dollar benefited Canadian consumers by making foreign goods cheaper but HURT
Canadian business and eliminated some jobs by cutting both domestic and foreign sales of their
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