Transcript What is a bank

MONEY
Money is any object or record, that is
generally accepted as payment for
goods and services and repayment of
debts in a given country or socioeconomic context
3 functions of money
medium of exchange
a unit of account
a store of value
(a standard of deferred payment)
BARTER AND ITS INCONVENIENCE
Barter uses relative prices
How many sheeps for one cow ?
Some good have a fast
obsolescence (my ice creams melt)
Different forms for money
Commodity money : stone, conch shell, gold...
Fiat money* : a piece of paper...
*Monnaie fiduciaire
Because it is not always convenient to walk around with
gold, banks created deposit money*
It is convenient for the customer who can use credit card,
transfer... for his payments.
It is convenient for the banker who can use his customer's
money to give loan.
*Monnaie scripturale
Money becomes Currency
The exchange rate is supposed to reflect the differences in
outputs, the competitiveness of the countries.
But it express the expected earning on financial products.
Gold Standard : money arrives on the market
1717 in England (until 1931)
1834 in the United States (until 1933)
1880 – 1914 : The classical Gold-Standard
1946-1971 : Bretton Woods (35$ per once)
2010 : World bank president Zoellick calls for new gold
standard
Price-specie-flow mechanism
Faster economic growth in the US
U.S. prices fell.
This caused the British to demand more U.S. exports
and Americans to demand fewer imports.
A U.S. balance-of-payments surplus was created, causing
gold (specie) to flow from the United Kingdom to the
United States.
The gold inflow increased the U.S. money supply,
reversing the initial fall in prices.
In the United Kingdom, the gold outflow reduced the
money supply and, hence, lowered the price level. The
net result was balanced prices among countries.
The Gold Standard and the Great Depression
In 1931–32, the Federal Reserve raised the
discount rate for fear of a run on its gold deposits.
If only the United States had not been shackled by
a gold standard, the Federal Reserve could have
avoided the credit squeeze that pushed the
country into depression and a banking crisis.
Means of payment
Common means of payment by an individual include money,
cheque, debit, credit, or bank transfer.
Should all this means be called money ?
Money supply (money stock)*
Measuring “money” is very complicated. There are many ways
to do it and many different views on the subject.
Different kind of “money” are classified according to their
liquidity.
* masse monétaire
MONEY SUPPLY
M1, M2, M3
M0 : coins, bills
M1 : liquid assets
M2 : less than 3 months
M 3 : Treasure bonds
...
Where does money stops ?
*OPCVM : Organisme de placement collectif en valeurs mobilières
ECB's figures
The Fed ceased publishing M-3 in March 2006
The bond market hates inflation
If the interest rates rise, prices of bonds fall but...
Determinants for money demand*
Interest rate
Volume of transactions
Prices
* do not mistake money demand for money greed
Liquidity trap
In keynesian economics, a situation where agents keep
money instead of investing in the economy. Because of
negative expectations and/or liquidity preference,
government policy is useless.
The Equilibrium Interest Rate
Changing the Money Supply to Affect the Interest Rate
FIGURE 26.7 The Effect of an Increase in
the Supply of Money on the Interest Rate
An increase in the supply of money from
MS0 to MS1 lowers the rate of interest from 7
percent to 4 percent.
Irving Fischer (1867 – 1947)
"the greatest economist the United
States has ever produced." (Milton
Friedman)
Let M=stock of money, P=price level, T=amount of transactions
carried out using money, and V= the velocity of circulation of
money. Fisher then proposed that these variables are
interrelated by the Equation of exchange:
MV=PT.
T became Q (quantity or real GDP)
Velocity of money


The number of time a bill changes hand on average
every year.
V = GDP/M
GDP = P*Y
V=P*Y/M
MV=PY

Assumption : V is constant (virtually constant)
When people spend less and borrow less, the velocity
decreases
What is a Central Bank ?
A banker's bank.
A lender of last resort.
Banks are subject to reserve requirement and are the only
« customers » of the Central Banks.
How does the central bank control money supply ?
1 – Changing required reserve ratio
2 – Changing the discount rate
3 – Buying or selling government securities
Contractionary – expansionary policies
Contractionary monetary policy intends to reduce the money
supply.
Expansionary policy expands the money supply.
Neo classical and keynesians do not agree on the effectiveness
of the money.
The equilibrium interest rate
Monetization of the debt
The Central Bank can print bills to pay Government bonds. It is
also called Quantitative Easing (QE)
In Europe Lisbon Treaty forbids us to do so.
The Federal Reserve decides how much, if any,
of the debt is “monetized”—that is, takes the
form of currency or its equivalent. The rest
consists of interest-bearing treasury securities.
Those central bank decisions are the essence of
monetary policy.
TOBIN
European Countries borrow on the market
Bank borrow money for 1% interest rate at the Central
European Bank … and lend it to the States.
Monetization of the debt
At year-end 2003, federal debt outstanding was
$7,001 billion, of which only 11 percent, or $753
billion, was monetized. That is, the Federal Reserve
banks owned $753 billion of claims on the U.S.
Treasury, against which they had incurred liabilities in
currency (Federal Reserve notes) or in deposits
convertible into currency on demand. Total currency
in public circulation outside banks was $664 billion at
year-end 2003. Banks’ reserves—the currency in their
vaults plus their deposits in the Fed—were $89 billion.
The two together constitute the monetary base (M0 or
MB), $753 billion at year-end 2003.
TOBIN
Printing money is a tax on money
Citizen always pay what the government offers.
The Coming Sovereign Debt Crisis
Nouriel Roubini (aka Dr Doom)
In 2008 and 2009, the decisions by these governments to do
"whatever it takes" to backstop their financial systems and
keep their economies afloat soothed investor concerns. But
if countries remain biased toward continuing with loose
fiscal and monetary policies to support growth, rather than
focusing on fiscal consolidation, investors will become
increasingly concerned about fiscal sustainability and
gradually move out of debt markets they have long
considered "safe havens."
Money creation
Exogenous / endogenous
Circuitist : the bank creates money
Mainstream : the central bank creates money
What is a bank ?
A bank is a private intermediary that borrow and lend funds.
What you can read in textbooks...
Bank creates money when it gives a loan.
This money is destroyed when the loan is repayed.
How does a bank T-account look like ?
ASSETS
LIABILITIES
Reserves
20
100
Deposit
Loans
90
10
Net worth
Total
110
110
Total
Net worth : situation nette
Reserve requirement : one of the Central Bank's tools
Banks hold reserves in cash (the vault) and in accounts at
the Central Bank.
Since 1999, the reserve ratio in the European Union used
to be 2%
The money multiplier
If the central bank creates 1000 high-powered money
Reserve (10%)
New loan
Bank 1
100
900
Bank 2
90
810
Bank 3
81
729
...
1
money
multiplier

required
reserve
ratio
Maurice Allais :
"In essence, the present creation of money, out of nothing by
the banking system, is similar - I do not hesitate to say it in
order to make people clearly realize what is at stake here - to
the creation of money by counterfeiters, so rightly condemned
by law."
STIGLITZ : We Have To Throw Bankers
In Jail Or The Economy Won't Recover
businessinsider.com nov. 2010
Is there any principle ? We all know the answer
to that. No, there’s no principle. It’s money.
It’s campaign contributions, lobbying, revolving
door, all of those kinds of things
Vous avez dit hors-bilan ?
Je veux qu'on tranche la question angoissante
du hors bilan. A quoi ça sert de fixer aux
banques des ratios de solvabilité sur leur bilan
si on les autorise à avoir à côté un hors bilan ?
(…) Ce qu'on appelle la titrisation. C'est-à-dire
que chaque jour, les banques consentaient un
prêt à 10h00 du matin, le revendaient à 17h00
le soir, prenaient la commission, le
déstockaient, le mettaient dans ce qu'on
appelle un SPV et mutualisaient ce mauvais
risque. (N. Sarkozy, fév. 2009)