1. Financial Markets and Monetary Policy
OCR Year 2 Macro

2. Financial Markets and Monetary Policy
Topic 4.2.4

3. What is Money?
OCR Year 2 Macro

4. Characteristics and Functions of Money
Durability i.e. it needs to last
Portable i.e. easy to carry around, convenient, easy to use
Divisible i.e. it can be broken down into smaller denominations
Hard to counterfeit - i.e. it can’t easily be faked or copied
Must be generally accepted by a population
Valuable – generally holds value over time

5. The Key Functions of Money
Medium of exchange: money allows goods and services to be traded without the need for a barter system. Barter systems rely on there being a double coincidence of wants between the two people involved in an exchange
Store of value: this can refer to any asset whose “value” can be used now or used in the future i.e. its value can be retrieved at a later date. This means that people can save now to fund spending at a later date.
Unit of account: this refers to anything that allows the value of something to be expressed in an understandable way, and in a way that allows the value of items to be compared.
Standard of deferred payment: this refers to the expressing of the value of a debt i.e. if people borrow today, then they can pay back their loan in the future in a way that is acceptable to the person who made the loan.

6. Definitions of the money supply
Notes and coins:
Notes and coins in circulation outside the Bank of England
The Bank of England (BoE) makes sure it creates enough banknotes to meet the public’s demand for them M0
Notes and coin plus central bank reserves
MZM
Notes and coin plus all sight deposits held by the non-bank private sector M2
Notes and coin plus all retail deposits (including retail time deposits) held by the non-bank private sector M4
Notes and coin, deposits, certificates of deposit, securities with a maturity of less than five years held by the non-bank private sector.

7. Distinction between narrow money and broad money
The narrow money definition of the money supply is a measure of the value coins and notes in circulation and other money equivalents that are easily convertible into cash such as short term deposits in the banking system
Broad Money
Broad money is a measure of the total amount of money held by households and companies in the economy
Broad money is made up mainly of commercial bank deposits — which are essentially IOUs from commercial banks to households and companies — and currency — mostly IOUs from the central bank

8. Is Bitcoin Real Money?
Bitcoin is a digital currency that was launched by a secretive entrepreneur in October 2008, with the aim of being “a new electronic cash system that is fully peer-to-peer with no trusted third party”.
Bitcoins are created by users (a.k.a. “miners”) who allow the Bitcoin system to use their computing power to process Bitcoin transactions
These miners are also rewarded with the some of the transaction fees paid by those who use Bitcoin.
A few retailers, especially online, accept Bitcoin, partly because the transaction fees are lower than those of credit cards.
However, Bitcoin’s value has been volatile
Fewer retailers than expected have signed up to accept Bitcoin because any transactions made in Bitcoin are not protected by financial regulation.
Bitcoin is special it is made possible by special cryptographic techniques so that it can not be faked
Each Bitcoin can only be spent by the same person just once.
The peer-to-peer nature of Bitcoin bypasses the need for banks, allowing people to lend to or borrow directly from others.

9. The Global Price of Bitcoin

10. Factors Affecting Supply of Money
“Open market operations” – this is effectively the same as Quantitative Easing. The Central Bank buys government bonds, effectively creating money
The “reserve requirement” imposed on banks – this is the % of deposits made by customers at the bank that the bank must keep hold of rather than lending it out
The policy interest rate set by the Bank of England – the rate of interest will influence how many households and businesses are willing and able to borrow. Most money in a modern economy is created by commercial bank lending so the rate of interest ultimately does have a bearing on the supply of money

11. Factors Affecting Demand for Money
The rate of interest on loans
The number / value of monetary transactions that we expect to carry out
The extent to which we also want to hold other financial assets, such as bonds, property, saving (this is also influenced by the rate of interest) – this is known as the speculative motive for holding money
Changes in GDP
The extent to which it is possible to use debit cards / credit cards i.e. the pace of financial innovation
The extent to which we might have to pay out large unexpected payments, for example, for i.e. the precautionary motive
The rate of anticipated inflation

12. UK Savings and Lending Interest Rates

13. Money, capital & foreign exchange markets
Money Market
Market for short term loan finance for businesses and households
Money is borrowed and lent normally for up to 12 months
Includes inter-bank lending i.e. the commercial banks providing liquidity for each other
Includes short term government borrowing e.g month Treasury Bills – to help fund the government’s budget (fiscal) deficit

14. Money, capital & foreign exchange markets
Capital Market
Market for medium-longer term loan finance
Capital markets are the markets where securities such as shares and bonds are issued to raise medium to long-term financing
Includes raising of finance by the government through the issue/sale of medium term - long term government bonds for example 10 year and 20 year bonds (loans)

15. Money, capital & foreign exchange markets
A market where currencies (foreign exchange) are traded. There is no single currency market – it is made up of the thousands of trading floors
Gains or losses are made from the movement of exchange rates – speculative activity in the currency market is often high
The spot exchange rate is the price of a currency to be delivered now, rather than in the future.
The forward exchange rate is a fixed price given for buying a currency today to be delivered in the future

16. Role of financial markets in the wider economy
A financial market is any exchange that facilitates the trading of financial instruments, such as stocks, bonds, foreign exchange, or primary commodities such as oil and gas.
To facilitate saving by businesses and households
To lend to businesses and individuals
To facilitate the exchange of goods and services
To provide forward markets in currencies and commodities
To provide a market for equities