1. Copyright © 2005 Pearson Education Canada Inc.12-1 Chapter 12 Money and the Banking System

2. Copyright © 2005 Pearson Education Canada Inc.12-2 Learning Objectives 12.1Define the functions of money. 12.2Explain what “backs” the Canadian dollar. 12.3Describe the various definitions of the money supply. 12.4Describe the Canadian financial system.

3. Copyright © 2005 Pearson Education Canada Inc.12-3 The Functions of Money Money  Anything that people generally accept in exchange for goods and services.

4. Copyright © 2005 Pearson Education Canada Inc.12-4 The Functions of Money The functions of money are: 1) Medium of exchange 2) Unit of account 3) Store of value (purchasing power)

5. Copyright © 2005 Pearson Education Canada Inc.12-5 The Functions of Money Money as Medium of Exchange  Sellers will accept it as payment in market transactions  Barter is direct exchange but requires a double coincidence of wants

6. Copyright © 2005 Pearson Education Canada Inc.12-6 The Functions of Money Money as Unit of Account  Is a way of placing a specific price on economic goods and services  Also called a standard of value which allows the comparison of the relative worth of various goods

7. Copyright © 2005 Pearson Education Canada Inc.12-7 The Functions of Money Money as a Store of Value  The ability to hold value over time – or purchasing power

8. Copyright © 2005 Pearson Education Canada Inc.12-8 The Functions of Money Liquidity  The degree to which an asset can be acquired or disposed of without much danger of any intervening loss in nominal value and with small transaction costs.  Money is the most liquid asset.

9. Copyright © 2005 Pearson Education Canada Inc.12-9 The Functions of Money Antique furniture Commercial Office buildings Old Masters paintings HousesCars Stocks And Bonds Certificates of deposit Chequable accounts Cash Low Liquidity High Liquidity

10. Copyright © 2005 Pearson Education Canada Inc.12-10 Monetary Standards, or What Backs Money Fiduciary Monetary System  The currency is issued by the government and its value is based uniquely on the public’s faith that the currency represents command over goods and services.  Called Fiat money because it is declared by the government to be legal tender.

11. Copyright © 2005 Pearson Education Canada Inc.12-11 Monetary Standards, or What Backs Money Acceptability  Demand Deposits  Chequing account balances in chartered banks and other types of financial institutions  Any accounts on which you can easily write cheques without many restrictions Predictability of Value  Value declines with inflation

12. Copyright © 2005 Pearson Education Canada Inc.12-12 Our narrowest measure: M1  Currency outside banks  Demand deposits Other measures are M2, M2+ Defining the Canadian Money Supply

13. Copyright © 2005 Pearson Education Canada Inc.12-13 Defining the Canadian Money Supply

14. Copyright © 2005 Pearson Education Canada Inc.12-14 Defining the Canadian Money Supply What about Credit cards and Debit cards?  Credit cards defer rather than complete transactions.  Debit cards are used to give an instruction to a bank to transfer funds.

15. Copyright © 2005 Pearson Education Canada Inc.12-15 Defining the Canadian Money Supply A Broader Measure of Money: M2 = M1 + Personal savings deposits + Non-personal notice deposits

16. Copyright © 2005 Pearson Education Canada Inc.12-16 Defining the Canadian Money Supply Savings Deposits  Interest-earning funds at chartered banks that can be withdrawn at any time without payment of a penalty.

17. Copyright © 2005 Pearson Education Canada Inc.12-17 Defining the Canadian Money Supply Non-Personal Notice Deposits  Interest-earning funds, deposited by firms at chartered banks, that can in practice be withdrawn at any time without payment of a penalty.

18. Copyright © 2005 Pearson Education Canada Inc.12-18 The Canadian Financial System Financial Intermediaries: Sources and Uses of Funds  Institutions that transfer funds between ultimate lenders (savers) and ultimate borrowers.

19. Copyright © 2005 Pearson Education Canada Inc.12-19 The Canadian Financial System Ultimate Lenders Households Businesses Governments Financial Intermediaries Chartered banks Trust companies Credit unions and caisses populaires Pension Funds Ultimate Borrowers Households Businesses Governments Investment Intermediaries Mutual Funds Investment Dealers Finance Companies The Process of Financial Intermediation