gsb728 lecture note topic 5a
TRANSCRIPT
![Page 1: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/1.jpg)
Economics for Management
GSB728
Topic 9:
Money and Interest Rates
1
![Page 2: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/2.jpg)
Note: This lecture note was prepared based on the teaching material provided
by the publisher of the textbook Principles of Economics.
2
![Page 3: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/3.jpg)
Learning Objectives1. The meaning and functions of money – What is
this thing called ‘money’?
2. The financial system in Australia – Where do banks and other financial institutions fit in?
3. The supply of money – How is it measured and what determines its size?
4. The demand for money – How much money do we want to hold at any one time?
5. Equilibrium – What effect does the demand and supply of money have on interest rates? 3
![Page 4: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/4.jpg)
Money
• The functions of money:– Medium of exchange.
– Means of evaluation.
– Means of storing wealth.
• What should count as money?– Cash: Yes
– Goods: No
– Financial assets such as bank and credit union accounts, stock and shares: It depends how narrowly money is defined.
4
![Page 5: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/5.jpg)
Australia’s Financial System
• The role of the financial sector:
– Financial intermediaries serve to channel funds from depositors to borrowers.
– Financial intermediaries:
• Banks.
• Non-bank financial institutions (NBFIs).
5
![Page 6: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/6.jpg)
Shares of Australian Financial Institutions (March, 2012)
6
Source: Reserve Bank of Australia (RBA) (2013).
*: Other includes Cash management trust, Common funds and Friendly societies.
Type of Institution Total Assets at March 2012 ($ Billions)
Banks 2,859
Building societies 22
Credit unions 50
Money market corporations 48
Finance companies 103
Securitisers 128
Insurance companies 383
Superannuation funds 1,162
Unit trusts 264
Other* 39
TOTAL 5,058
![Page 7: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/7.jpg)
• Banks:
– Assets and liabilities:• Assets: loans; currency; deposits with the Reserve Bank
of Australia (RBA).
• Liabilities: deposits.
– Liquidity and profitability:• Liquidity: how easy an asset can be transformed into
cash without loss. Cash is perfectly liquid.
• Profitability: objective of the banks (lend money at a rate higher than the one paid to depositors).
• Liquidity and profitability move in opposite directions. 7
Australia’s Financial System (contd.)
![Page 8: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/8.jpg)
• Non-bank financial intermediaries:
• Credit unions, building societies, finance companies.
8
Australia’s Financial System (contd.)
![Page 9: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/9.jpg)
– Functions:• Issues notes.
• Acts as a bank for banks.
• Acts as a lender of last resort to banks not NBFIs.
• Acting for the Federal government and States governments.
• Holds the official foreign currency reserves.
• Operates monetary policy:– Stability of currency.
– Maintenance of full employment.
– Economic prosperity and welfare of people in Australia.
The Reserve Bank of Australia
9
![Page 10: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/10.jpg)
The Supply of Money
• Measuring the money supply
– Monetary base:
• Notes, coins, deposits held by banks at the RBA.
– Broad money:
• Cash in circulation, bank deposits, deposits in NBFIs.
10
![Page 11: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/11.jpg)
Alternative Measures of the Money Supply (July, 2013)
11
Source: Reserve Bank of Australia (RBA) (2013).
$ Billions
Currency 55
Plus current deposits with banks 219
Equals M1 274
Plus all other deposits at banks 1,294
Equals M3 1,567
Plus net borrowing from the private sector by NBFIs 6
Equals Broad Money 1,574
![Page 12: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/12.jpg)
• Credit creation:– Expansion of the amount of bank deposits and
therefore the money supply.
12
The Supply of Money (contd.)
![Page 13: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/13.jpg)
Example of Credit Creation (I):Bank’s Original Balance Sheet
Source: Sloman et al. (2014).
Assets $Bn Liabilities $Bn
Balances with the Reserve Bank 10 Deposits 100
Advances 90
Total 100 Total 100
![Page 14: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/14.jpg)
Example of Credit Creation (II):Initial Effect of an Additional Deposit of $10 Billion
Source: Sloman et al. (2014).
Assets $Bn Liabilities $Bn
Balances with the Reserve Bank (old) 10 Deposits (old) 100
Balances with the Reserve Bank (new) 10 Deposits (new) 10
Advances 90
Total 110 Total 110
![Page 15: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/15.jpg)
Example of credit creation (III):The full effect of an additional deposit if $10 billion
Source: Sloman et al. (2014).
Assets $Bn Liabilities $Bn
Balances with the Reserve Bank (old) 10 Deposits (old) 100
Balances with the Reserve Bank (new) 10 Deposits (new: initial) 10
Advances (old) 90 Deposits (new: subsequent) 90
Advances 90
Total 200 Total 200
![Page 16: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/16.jpg)
– The bank multiplier:• 1/L where L = liquidity ratio
– Banks’ liquidity ratio may vary:• Banks may choose a different liquidity ratio.• Customers may not want to take up the credit on offer.
– Banks may not operate a simple liquidity ratio.
– Some of the extra cash may be withdrawn from the banks.
16
The Supply of Money (contd.)
![Page 17: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/17.jpg)
• What is the relationship between the money supply and the rate of interest?
17
The Supply of Money (contd.)
![Page 18: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/18.jpg)
0
Rate
of i
nter
est
Quantity of money
MS
The Supply of Money Curve: (a) Exogenous Money Supply
Source: Sloman et al. (2014).18
![Page 19: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/19.jpg)
0
Rate
of i
nter
est
Quantity of money
The Supply of Money Curve: (b) Endogenous Money Supply
MS
Source: Sloman et al. (2014).19
![Page 20: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/20.jpg)
Exogenous and Endogenous Variables
• Models are composed by :– Exogenous variables: those that come outside of the
model.– Endogenous variables: those that a model tries to
explain.
20
Source: Mankiw (2013).
![Page 21: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/21.jpg)
The Demand for Money
• The motives for holding money:
– Transactions motive.
– Precautionary motive.
– Speculative motive.
21
![Page 22: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/22.jpg)
• Determinants of the size of the demand for money:
– Rate of interest (opportunity cost).
– Nominal GDP.
– Frequency with which people are paid.
– Financial innovations.
– Speculation about future return on assets.
22
The Demand for Money (contd.)
![Page 23: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/23.jpg)
0
Rate
of i
nter
est
MD
Quantity of money
The Demand Curve for Money
Source: Sloman et al. (2014).23
![Page 24: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/24.jpg)
Equilibrium
• Equilibrium in the money market:
• Equilibrium interest rate.
• Where demand for money (Md) and supply of money (Ms) are equal.
24
![Page 25: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/25.jpg)
0
Rate
of i
nter
est
Md
Quantity of money
MS
re
Me
Equilibrium in the Money Market
Source: Sloman et al. (2014).25
![Page 26: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/26.jpg)
• Full effect of changes in the money supply (Ms):
– Ms r (interest rates)
– r I, C
– I, C AD, GDP, inflation
– r exchange rate X, M
26
Effects of an increase in Money Supply
![Page 27: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/27.jpg)
27
Relationships Among Money, Prices and Interest Rate
Source: Mankiw (2013).
![Page 28: Gsb728 lecture note topic 5a](https://reader036.vdocuments.site/reader036/viewer/2022062307/554e419fb4c90518468b52c4/html5/thumbnails/28.jpg)
References
Mankiw, N. G. (2013). Macroeconomics (8th ed.). New York: Worth.
Morales, L. E., Simons, P. and Valle de Souza, S. (2014). GSB728: Economics for Management [Topic Notes]. Armidale, Australia: University of New England, Graduate School of Business.
Reserve Bank of Australia (RBA) (2013). Statistics. Retrieved from http://www.rba.gov.au/.
Sloman, J., Norris, K and Garratt, D. (2014). Principles of Economics (4th ed.). French Forest, Australia: Pearson.
28