Money & Banking ECO 473 Dr. Dennis Foster

Why do we need money?

• Trade. • Problems with barter. • Can we not have money?

Why do we need banks?

• Storage. • Facilitates lending & borrowing. • How do you access funds? • Can we not have banks?

How does money relate to economic policies?

• Circular flow model. • Equation of exchange. • Monetary policy.

The circular flow model

Output markets People (households)

saving borrowing

Factor markets

Money Flows

Businesses

Real Flows

The Equation of Exchange

M•V = P•y

(money) x (velocity) = (price) x (quantity) all we spend = all we bought

Apply a little calculus . . .

%ΔM + %ΔV = %ΔP + %Δy money growth + spending habits change = inflation + real economic growth

Monetary Policy

• • •

Conducted by the Federal Reserve (FED) Controls the quantity of money available.

Uses control, primarily, to:

–

fight inflation by



M . . . what happens?

–

fight unemployment by



M . . . what happens?

Money & Banking ECO 473 Dr. Dennis Foster