Unit 1: What Is Money?

Readings: Mishkin Chapter 3; BOJ Pamphlet The Measurement of Money Supply

At the end of this lesson students should be able to:
Define money Differentiate between wealth, income and money Explain the three main functions of money Trace the evolution of money over time Use M1, M2 and M3 measures of money to categorize from most to least liquid Discuss factors impacting the relaibility of money data.
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Money

(or the money supply) is anything that is accepted for making payments for goods and services or repayment of debts

Three primary functions of money:

Medium of Exchange A unit of account A store of value
Impact of inflation on money as a store of value

 For an object to serve efficiently as money it must possess the following features:
A wide acceptance A standardized commodity (easy to ascertain value) Must not be easily duplicated or counterfeited Divisibility (easy to make change) Portability (ease of carriage) Durability (must not deteriorate quickly)

QUESTION: Link each characteristic of money to the function or functions that it fulfills:

Wide acceptance Standardized commodity Not easily duplicated Divisibility Portability Durability

Medium of Exchange Unit of Account Store of Value

Features

Functions

Which of the following would best serve as money: A bag of corn, cigarettes or live cattle (e.g. a pig)? Use the three functions of money to defend your decision. Instructions:
Write down an answer to the question Discuss your answer with the person next to you Share your findings with the class

Distinctions need to be made between wealth, income and money

Wealth Income -

The Evolution of Money (see additional notes)

Commodity Money

Fiat Money

Cheques

EMOP

E-Money
Debit cards, Stored value cards, Smart cards, E-cash

Question:

Money?

What are some disadvantages of E-

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Question: Do these developments mean that we are headed for a cashless society?

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MS = Currency + Deposits Money can be broken down based on liquidty and classified as
M1 M2 M3

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Table 1

Standard measures of the money supply

Measure M0

Obtained from BOJ Pamphlet

Comments Often referred to as the monetary base or reserve money. Controlled by the monetary authority/central bank. outside of the Most commonly used definition.

Definition Currency in the hands of the public plus reserves held on behalf of

commercial banks. M1 Notes and coins

banking system plus current account balances, held for transactions.

Readily accepted for payment of goods and services. Some of these assets may attract a minimal interest payment. May include foreign

currency deposits that are directly used for domestic transactions. M2 M1 plus short-term time and savings deposits, foreign currency Minimal cost of conversion to cash. Close accounts. substitutes for current

transferable deposits, certificates of deposit and repurchase agreements. M3 M2 plus travellers cheques, short term bank notes, long term foreign currency time deposits and money market mutual funds. M4 or L M3 plus treasury bills, negotiable bonds and pension funds.

The components of M3 vary between countries. Emphasis is placed on degree of liquidity or ease of

conversion to cash. Very broad money, which is usually, considered a measure of fairly liquid assets. Generally includes most of the instruments traded in money markets.
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M1 (4)

M2 (4+3)

Currency

Travelers Checks
Demand Deposits Other Check. Dep

Small Den. Dep. Savings and MM Money Market Mutual Funds Shares

M3 (4+3+4)

Question: Categorize

the following from most liquid to least liquid and where applicable state whether M1, M2 or M3.
a) b) c) d) e) f) Checking account deposits Houses Currency Washing machines Saving deposits Common stock
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The money data are not reliable and are therefore subject to revisions.
Factors causing money data to be unreliable: Banks take time to report their deposits to the central bank and do so infrequently. This results in a float.
Float = cash items in the process of collection Bad weather also causes the float to increase

Seasonal variations
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Less attention should be paid to short run money supply movements

only the long run movements are reliable

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What was the muddiest point from todays lecture session?

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Read Chapter in the Prescribed Text

Visit OurVLE to:

Take part in the Unit 1discussion forum Attempt Unit 1 Practice MCQ Attempt Unit 1 questions on Problem Paper 1

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