13 Money and Banking
10.1 defining money by its functions
Review Activities
Practice Problems
Problem 10.1.1: For each of the following, determine whether money is being used as a medium of exchange, unit of account, standard of deferred payment, or store of value.
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1.The price of a hotdog is $2 while the price of a hamburger is $4. We can see that a hamburger is twice as expensive as a hotdog.
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Zheng saves $50 from each paycheck to save up the $600 he needs for a new laptop.
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Sally uses $10 to purchase lunch.
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As a dairy farmer, you use the money you earn from working to pay for goods and services instead of paying for the goods and services in milk.
- The bank accepts US dollars as repayment for your loan because they know they will hold value and can use them to make more purchases.
Answers: Unit of account; Store of value (or standard of deferred payment okay too); Medium of exchange; Medium of exchange; Standard of deferred payment
External Resources
Khan Academy: Functions of Money
Khan Academy: Commodity Money versus Fiat Money
10.2 measuring money: currency, m1, and m2
Review Activities
Practice Problems
No practice problems for this section.
External Resources
Khan Academy: Money Supply: M0, M1, and M2
10.3 the role of banks
Review Activities
Practice Problems
Problem 10.3.1: Marquette Bank receives a $500,000 deposit. The reserve requirement is 10%. Further, the bank wants to loan out $300,000 and buy $50,000 worth of US Government Securities. Create a balance sheet for the bank showing assets on one side and liabilities and net worth on the other.
Answer: See video for solution.
External Resources
No external resources for this section.
10.4 how banks create money
Review Activities
Practice Problems
Problem 10.4.1: Katarina deposits $1,000 into PNC Bank. The current reserve requirement is 25%.
- Show the first three rounds of savings on balance sheets. I provided a template for the balance sheet for one bank below. You need three.
- Calculate the total amount of deposits in the banking system after an infinite number of rounds of savings.
| Assets | Liabilities + Net Worth | ||
| Loans | Deposits | ||
| Reserves | |||
| USGS | Net Worth |
Answers: See video for balance sheets; $4,000.
Problem 10.4.2: Mohammad deposits $5,000 into the Erie Federal Credit Union. The current reserve requirement is 10%.
- Show the first three rounds of savings on balance sheets. I provided a template for the balance sheet for one bank below. You need three.
- Calculate the total amount of deposits in the banking system after an infinite number of rounds of savings.
| Assets | Liabilities | ||
| Loans | Deposits | ||
| Reserves | |||
| USGS | Net Worth |
Answers: See video for balance sheets; $50,000.
Problem 10.4.3: Suppose that the Federal Reserve wants a $2,000 deposit to increase deposits by a total of $10,000. What reserve requirement should they set?
Answer: 20%
Problem 10.4.4: Suppose that the Federal Reserve wants a $1,000 deposit to increase deposits by a total of $20,000. What reserve requirement should they set?
Answer: 5%
External Resources
Khan Academy: Bank Balance Sheets in a Fractional Reserve System
Khan Academy: Money Creation in a Fractional Reserve System
Khan Academy: Balance Sheet Problem
Khan Academy: Multiplier Effect and the Money Supply