Activity 35

What’s all this about the MS?

• 1. What are the three basic functions of money?

• 1. What are the three basic functions of money?

• Medium of exchange– Accepted as payment for

goods and services• Standard of value

– Unit of account– A price mechanism

• to compare the value of goods and services

• Store of value– Able to be held for future

purchases– An abode of purchasing

power

• 2. Why is it important for the FED to know the size and rate of growth of the money supply?

• Changes in the size of the money supply and the rate in which it is growing can have significant impact on fluctuations of output and the health or well being of an economy.

• Uncertainty creates difficult decision making for firms

• 2(A). What are the effects if the money supply grows too slowly?

• 2(A). What are the effects if the money supply grows too slowly?

• If the money supply is growing too slowly, the likelihood of recession increases

• The demand for money will increase– Driving up interest rates

• As interest rates rise, investment declines– Slowing the growth rate of

real output

• 2(B). What are the effects if the money supply grows too rapidly?

• 2(B). What are the effects if the money supply grows too rapidly?

• If the money supply is growing too quickly,

• it could lead to inflation

• 3. Name a type of money we use that serves primarily as a medium of exchange.

• 3. Name a type of money we use that serves primarily as a medium of exchange.

• Currency• Coins• Debit cards• Checkable deposits

• 4. Name a type of money we use that serves primarily as a store of value.

• 4. Name a type of money we use that serves primarily as a store of value.

• Savings account• Money market mutual

fund account– IMMA

• 5. As the use of credit cards became more prominent and the availability of credit broader than ever, why are credit cards not included in the MS?

• 5. As the use of credit cards became more prominent and the availability of credit broader than ever, why are credit cards not included in the MS?

• A credit card differs from a loan in that it’s use is a promise to pay. – An issuer makes a

payment on behalf of the user, but then the user must make payment to the issuer.

• If loans and credit card use were counted as money, one economic transaction would be double-counted in the money supply.

• 6. Why is it difficult for the FED to get an accurate measure of the money supply (MS)?

• 6. Why is it difficult for the FED to get an accurate measure of the money supply (MS)?

• Because of the volume of transactions in the US, – which can range into the

trillions on a daily basis, • getting an accurate

measure of each transaction can be an arduous task.

• The inputs are constantly changing – as banks make new loans – and people repay loans

ahead of schedule

• 7. Why must the FED continue to develop new ways to track the money supply (MS)?

• 7. Why must the FED continue to develop new ways to track the money supply (MS)?

• Because of technological innovation in the financial services industry,

• and profit maximizing behavior on the part of commercial banks,

• the FED must find new ways for tracking the money supply to assist with monetary policy.

8. Use the data to calculate M1, M2, and M3. Assume all items not mentioned are zero. Show all your work.

• Checkable deposits– Demand deposits, NOW

accounts, ATM and credit union share draft accounts

• Currency• Large time deposits• Non-checkable savings

deposits• Small time deposits• Institutional money

market mutual funds

• M1= _______________

• M2= _______________

• M3= _______________

8. Use the data to calculate M1, M2, and M3. Assume all items not mentioned are zero. Show all your work.

• Checkable deposits– Demand deposits, NOW

accounts, ATM and credit union share draft accounts

• Currency• Large time deposits• Non-checkable savings

deposits• Small time deposits• Institutional money

market mutual funds

• M1= 850+200=1,050

• M2= 1,050+1,745+302=3,097

• M3= 3,097+800+1,210=5,107

Components of M1

M2 over 10 years

M2 since 2007

Change from a year ago

% change since 1963

% change since 2006