Characteristics of Money - Review A_______________S_______________D_______________D_______________P_______________

Characteristics of Money AcceptabilityScarcityDurabilityDivisibilityPortability

Why is Money Used? - Review _________________ –People must be willing to trust it and accept it _________________ –Wages and Prices _________________ –Savings or investments in Cash

Why is Money Used? Medium of Exchange –People must be willing to trust it and accept it Measure of Value –Wages and Prices Store of Value –Savings or investments in Cash (Cash beat the stock market over the past 8 years)

Money Supply - Review Total ______________ available Controlled (to some extent) by ________ ___________ in each country Money Supply Includes: –_______________

Money Supply Total amount of money available Controlled (to some extent) by Central Banks in each country Money Supply Includes: –Physical Cash –Credit/Debt outstanding

Interest Rate - Review Amount Charged on ________ The _________ of Money ________________Interest Rate is used to __________ money supply –_____ rates increase lending & money supply –_____ rates reduce lending & money supply __________ Policy – used to control growth

Interest Rate Amount Charged on Debt The Price of Money Central Bank Prime Interest Rate is used to control money supply –Lower rates increase lending & money supply –Higher rates reduce lending & money supply Monetary Policy – used to control growthMonetary Policy – used to control growth

Stock Market – ______________ Yesterday All-Time High (Oct 07)

Stock Market – Economic Barometer Yesterday All-Time High (Oct 07)

Rate Cuts - Review Central Banks reduce the interest rate when there is an _______________ The hope is to encourage more ________ due to lower costs, and encourage _________________ Worked in 2002 Isnt working very well now – US Fed rate __________

Rate Cuts Central Banks reduce the interest rate when there is an economic downturn The hope is to encourage more borrowing due to lower costs, and encourage economic expansion Worked in 2002 Isnt working very well now – US Fed rate near zero

Inflation/Deflation - Review Inflation is a __________ in the value of a dollar. –Can result from an _________ in credit/money supply Deflation is an ________ in the value of a dollar. –Can result from a _________ in credit/money supply Deflation is associated with a _______________ _____________ (e.g. Japan in the 1990s)

Inflation/Deflation Inflation is a decrease in the value of a dollar. –Can result from an expansion in credit/money supply Deflation is an increase in the value of a dollar. –Can result from a contraction in credit/money supply Deflation is associated with a serious economic contraction (e.g. Japan in the 1990s)

Unprecedented ______________ Credit divided by Production Currently 350%

Unprecedented Credit Expansion Credit divided by Production Currently 350%

US Interest Rates Long Term Central Bank Interest Rates are usually somewhat higher than the ________ ________

US Interest Rates Long Term Central Bank Interest Rates are usually somewhat higher than the rate of inflation

Risk and the Credit Spread Difference between __________ and ________ credit An increase in spread means lenders are _______ about more risky borrowers ability to __________

Risk and the Credit Spread Difference between more risky and less risky credit An increase in spread means lenders are nervous about more risky borrowers ability to repay loans

Credit Crisis Lenders are not ___________ Borrowers are not __________ All players are losing __________ Credit is _________; money supply is __________ – Deflation? Governments trying to __________the economy (President Obama)

Credit Crisis Lenders are not willing to lend Borrowers are not able to borrow All players are losing confidence Credit is contracting; money supply is contracting – Deflation? Governments trying to stimulate the economy (President Obama)

Read A Question of Ethics (pg. 176) Stimulus Bills are being financed by ____________ _________________ – this is paid for by Printing Money Printing Money… _____________ –__________ in 1930s –Zimbabwe now Ethical?

Read A Question of Ethics (pg. 176) Stimulus Bills are being financed by increased government debt – this is paid for by Printing Money Printing Money…Hyper Inflation –Germany in 1930s –Zimbabwe now Ethical?

New Topic – Foreign Exchange

Foreign Exchange Rate The Value of one currency in terms of another currency Goods sold to another country will usually be paid for in that countrys currency Exporters and Importers face Foreign Exchange Risk –Can lead to a gain or a loss –Need to forecast and account for changes in foreign exchange –May need to buy futures contracts, or use natural hedging to reduce risk

Some Factors Affecting Foreign Exchange Rates Economic Conditions in a Country –Growth vs. Recession/Contraction –Central Bank Interest Rates & Money Supply Balance of Payments –Related to Total Foreign Debt –Related to Balance of Trade Political Stability –Changing governments, war Financial Speculation

Balance of Payments Measure of Money Flows into and out of a country Money ___ – Money ___ = Balance A Positive Balance of Payments usually results in a currency _________ in value A Negative Balance of Payments usually results in a currency ______ value

Balance of Payments Measure of Money Flows into and out of a country Money In – Money Out = Balance A Positive Balance of Payments usually results in a currency increasing in value A Negative Balance of Payments usually results in a currency losing value

Political Stability Political Instability in a country can affect ____________ –Has a direct impact on the _________ of a countrys currency –Instability can cause a currency to _____ value quickly (Monopoly money)

Political Stability Political Instability in a country can affect confidence –Has a direct impact on the Acceptability of the countrys currency –Instability can cause a currency to lose value quickly (Monopoly money)

Financial Speculation Most major currencies are traded on a market, similar to the stock market Exchange rates can _______ quite widely However, some countries peg their exchange rates (e.g. China to U.S.)

Financial Speculation Most major currencies are traded on a market, similar to the stock market Exchange rates can fluctuate quite widely However, some countries peg their exchange rates (e.g. China to U.S.)

Pegged vs. Floating Exchange $US vs. $CDN (floating) $US vs. CYuan (Pegged)

Recent Exchange Rates

Exchange Rate Calculations How To… A Hamburger in Tokyo costs 400 yen. How much is this in $CDN? A US company is buying computers from a company in France. Each computer costs 1700 Euro. How much does the US company need to pay ($US)? Practice Problems due tomorrow (Thursday)

Why is this Relevant? The economic downturn has resulted in devastation of the US economy Government has stepped in to prop up banks and bail out investors Amount of credit outstanding is dropping for the first time in several decades

New Terms Credit/GDP ratio Credit Spread Credit Crisis Hedge Fund Deleveraging Rate cut Pushing on a string Inflation/Deflation

Definition: Deleveraging What hedge funds and other investors who buy on credit have to do when asset values fall, like they have in the past six months Need to sell assets to cover losses Since credit is no longer easily available, investors have to sell more assets to cover losses A downward spiral

Pushing on a String Pulling on a string is a way to describe increasing interest rates – this has the desired effect of slowing down an overheated economy and usually works Pushing on a string is a way to describe lowering interest rates – the desire is to get people to borrow and increase economic activity, but only works if people want to lend and are able to borrow Right now, lower interest rates are not working, so it is like pushing on a string

Credit/Debt Credit/Debt Relationships depend on everyone having confidence in everyone else Banks have insufficient reserves to handle large withdrawals –If everyone withdraws their money from a bank at the same time, the bank will fail IOUs are not cash Be careful who you loan your money to

Hedge Fund Investment group that uses credit to buy financial assets such as stocks (like Intel, BCE, RIM etc.) and commodity futures (such as oil, wheat, copper, gold, etc.) Allowed to borrow up to 40 times the actual cash they have – called leverage – to buy financial assets on credit Works as long as assets go up in price

Stimulus vs. $ Value