Macroeconomics Unit IV: Money

MONEY

Money

• any asset that can be used to purchase any goods or services

Uses

1. medium of exchange: determining value
2. unit of account: comparing accounts
3. store of value: how money can be kept ex. in a bank or box

Types

1. commodity: money that has value in itself ex. salt, olive oil, or gold
2. representative: represents something of value ex. IOU
3. fiat: money because the government says so ex. paper currency or coins

Characteristics of Money

1. durability
2. portability
3. divisibility
4. uniformity
5. limited supply
6. acceptability

Money Supply

• What is money supply? 
• money supply is all available money in the U.S. economy

M1 Money

• liquid assets: can be easily converted into cash
• cash
• currency
• checkable deposits
• demand deposits (checking accounts)
• traveler's check

M2 Money

• M1 Money + savings accounts and money market accounts

Purpose of Financial Institutions

1. store money
2. saving money
3. loan money 

Ways to Save Money

1. savings account
2. checking account
3. money market account
4. certificate of deposit

Loans

• banks operate on a fractional reserve system, which means that they keep a fraction of the funds in a bank and lend out the rest

Interest Rates

• simple interest: paid on the principle
• compound interest: paid on principle and accumulated interest 
• principle interest: amount of money borrowed
• interest: price paid for use of borrowed money

How to Calculate Simple Interest 

• (I) = ((P) x (R) x (T))/ (100)
• P: PRINCIPLE
• T: TIME
• R: INTEREST RATE

Types of Financial Institutions

1. commercial banks
2. savings and loan institutions
3. mutual savings bank
4. credit unions
5. finance companies

Investments

• redirecting resources that we would consume now for future purposes
• financial assets: claims on property and income of borrower
• financial intermediaries: institute that channels funds from savers to borrowers 
• savers → financial institutions  → investors

Purpose of Financial Intermediaries

1. share risk: through diversification (spreading out investments to reduce risk)
2. provide information: get a stockbroker
3. liquidity: returns, money investor receives above and beyond what was initially invested

Bonds

• loans or IOUs that represent debt that the government or corporation must repay to an investor 
• generally low risk investments

Components

1. coupon rate: interest rate that a bond issuer will pay to a bond holder
2. maturity: time at which payment to a bond holder is due
3. par value: amount an investor pays to purchase a bond and that will be repaid to investor at maturity

Time Value of Money

• reason for charging and paying interest: opportunity cost and inflation
• V: future value of money
• P: present value of money
• n: # of years 
• r: real interest rate (nominal-inflation)
• k: # of times interest is charged during year

Simple Interest

• (V) = ((1 + r )^n) x (p)

Compound Interest

• (V) = ( 1 + (r/k)^((n)(k)) x (p)