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31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

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Page 1: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

31

Money, Banking, and Financial Institutions

McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

Page 2: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Functions of Money

• Medium of exchange

• Used to buy/sell goods

• Unit of account

• Goods valued in dollars

• Store of value

• Hold some wealth in money form

• Money is liquid

LO1 31-2

Page 3: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Money Definition

LO1

M1 M2

•Currency•Checkable deposits

•Institutions offering checkable deposits

•Commercial banks•Savings and loan associations•Mutual savings banksCredit unions

•M1 plus near-monies

•Savings deposits including money market deposit accounts (MMDA)

•Small-denominated time deposits

•Money market mutual funds (MMMF)

31-3

Page 4: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

What “Backs” the Money Supply?

• Guaranteed by government’s ability to keep value stable

• Money as debt

• Why is money valuable?

• Acceptability

• Legal tender

• Relative scarcity

LO2 31-4

Page 5: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

What “Backs” the Money Supply?

• Prices affect purchasing power of money

• Hyperinflation renders money unacceptable

• Stabilizing money’s purchasing power• Intelligent management of the money

supply – monetary policy• Appropriate fiscal policy

LO2 31-5

Page 6: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Federal Reserve - Banking System

• Historical background

• Board of Governors

• 12 Federal Reserve Banks

• Serve as the central bank

• Quasi-public banks

• Banker’s bank

LO3 31-6

Page 7: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Federal Reserve – Banking System

Commercial BanksThrift Institutions

(Savings and Loan Associations,Mutual Savings Banks,

Credit Unions)

The Public(Households and

Businesses)

12 Federal Reserve Banks

Board of Governors

Federal Open Market Committee

LO3 31-7

Page 8: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Federal Reserve – Banking System

LO3

The 12 Federal Reserve Banks

31-8

Page 9: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Federal Reserve – Banking System

• Federal Open Market Committee

• Aids Board of Governors in setting monetary policy

• Conducts open market operations

• Commercial banks and thrifts

• 6,800 commercial banks

• 8,700 thrifts

LO3 31-9

Page 10: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Federal Reserve Functions

• Issue currency

• Set reserve requirements

• Lend money to banks

• Collect checks

• Act as a fiscal agent for U.S. government

• Supervise banks

• Control the money supply

LO4 31-10

Page 11: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Federal Reserve Independence

• Established by Congress as an independent agency

• Protects the Fed from political pressures

• Enables the Fed to take actions to increase interest rates in order to stem inflation as needed

LO4 31-11

Page 12: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

Financial Institutions

World’s 12 Largest Financial Institutions, 2009

Royal Bank of Scotland (UK)Barclays (UK)

Deutsche Bank (Germany)BNP Paribas (France)HSBC Holdings (UK)

JPMorgan Chase (US)Credit Agricole (France)

Citigroup (US)Mitsubishi UFJ (Japan)

UBS (Switzerland)ING Group (Netherlands)

Bank of America (US)

0 1.5 2.5 3.5

Source: Forbes Global 2000, http://www.forbes.com

Assets (Trillions of U.S. Dollars)

LO4 31-12

Page 13: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

The Financial Crisis of 2007 and 2008

• Mortgage Default Crisis

• Many causes

• Government programs that encouraged home ownership

• Declining real estate values

• Bad incentives provided by mortgage-backed bonds

LO5 31-13

Page 14: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

The Financial Crisis of 2007 and 2008

• Securitization: the process of slicing up and bundling groups of loans into new securities

• As loans defaulted, the system collapsed

• “Underwater” homeowners abandoned homes and mortgages

LO5 31-14

Page 15: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

The Financial Crisis of 2007 and 2008

• Failures and near-failures of financial firms

• Countrywide: second largest lender

• Washington Mutual: largest lender

• Wachovia

• Other firms came close

LO5 31-15

Page 16: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

The Financial Crisis of 2007 and 2008

• Troubled Asset Relief Program (TARP)

• Allocated $700 billion to make emergency loans

• Saved several institutions from failure

LO6 31-16

Page 17: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

The Financial Crisis of 2007 and 2008

• The Fed’s lender-of-last-resort activities

• Primary Dealer Credit Facility

• Term Securities Lending Facility

• Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility

• Commercial Paper Funding Facility

LO6 31-17

Page 18: 31 Money, Banking, and Financial Institutions McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved

The Financial Crisis of 2007 and 2008

• Money Market Investor Funding Facility

• Term Asset-Backed Securities Loan Facility

• Interest Payments on Reserves

LO6 31-18


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