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Chapter 3The Role of Money

and Credit

© 2000 South-Western College Publishing

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Interest RateInterest Rate

The cost to borrowers of obtaining money and the return (or yield) on money to lenders

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Quantity Quantity DemandedDemanded of Money of Money

The specific amount of money that spending units wish to hold at a specific interest rate (price)

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Demand Demand for Moneyfor Money

The entire set of interest rate-quantity demanded combinations as represented by a downward-sloping demand curve for money

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Supply of MoneySupply of Money

The stock of money (MI) which includes currency in the hands of the public plus checkable deposits

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Depository InstitutionsDepository Institutions

Financial intermediaries such as commercial banks, savings and loans, credit unions, and mutual banks that issue checkable deposits

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Reserves

Assets that are held as either vault cash or reserve deposit accounts with the Fed

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Required Reserve Ratio

The fraction of deposit liabilities that depository institutions must hold as reserve assets

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Interest Rate

(Percent)

Quantity of Money

Demand

Exhibit 3-1

The Demand for Money

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Quantity Quantity SuppliedSupplied of of MoneyMoney

The specific amount of money that will be supplied at a specific interest rate

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Interest Rate

(Percent)

Quantity of Money

Supply

Exhibit 3-2

The Supply of Money

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Interest Rate

(Percent)

Quantity of Money

Supply

Exhibit 3-3

Demand

ie

Market Equilibrium

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Interest Rate

(Percent)

Quantity of Money

SS

Exhibit 3-4

Demand

ie

SS

i1e

Increase in the Money Supply

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Federal Reserve

Acts

Interest Rates, Money Supply

and Credit Flows Change

Aggregate Demand for Goods and

Services Shifts

Economy’s Output and

Prices Respond

Exhibit 3-5

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Credit is...The flow of money from SSUs or financial intermediaries to DSUs in a given time period, and vice versa

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Real Gross Domestic Product (Real GDP)

The real, or inflation-adjusted quantity of final goods and services produced in an economy in a given time period

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Consumer Price Index Consumer Price Index (CPI)(CPI)

A price index that measures the cost of a market basket that a typical urban consumer purchases

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Producer Price Index Producer Price Index (PPI)(PPI)

A price index that measures the change in the cost of a market basket purchased by the typical producer of goods and services

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Inflation Rate

The rate of change in the consumer price index that measures the growth rate of the average level of prices paid by consumers

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Nominal GDPNominal GDPThe quantity of final goods and services produced in an economy during a given time period and valued at today’s prices

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1982-841989199019911992199319941995199619971998

$500620653.50681701.50722.50741762784.50802.50815

100124130.7136.2140.3144.5148.2152.4156.9160.5163

5.4%4.22.63.02.62.83.02.31.6

YearTotal Cost of

Market BasketConsumerPrice Index

AnnualInflation Rate

Measuring the Inflation Rate

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Monetarists

Economists who stress the role of money in determining the overall health of the economy