Chapter 1 An Introduction to Money and the Financial System

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• ECON 304 Money and Banking
• Instructor Bernard Malamud
• Office BEH 502
• Phone [phone]
• Fax [phone]
• Email bernard.malamud_at_unlv.edu
• Website www.unlv.edu/faculty/bmalamud
• Office hours TR 12 - 1 pm 230 - 330 pm and
  by appointment

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Money, Banking, and Financial Markets

• The role of money and monetary policy in the
  economy
• TRUST
• How financial markets such as bond, stock and
  foreign exchange markets work
• TRUST
• How financial institutions such as banks and
  insurance companies work
• TRUST

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• A security (financial instrument) is a claim on
  the issuers future income or assets
• A bond is a debt security that promises to make
  specified payments over time
• An interest rate is the cost of borrowing or the
  price paid for the rental of funds
• Common stock represents a share of ownership in a
  corporation
• A share of stock is a claim on the earnings and
  assets of the corporation

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Banking and Financial Institutions

• Financial Intermediariesinstitutions that borrow
  funds from people who have saved and make loans
  to other people and businesses
• Banksaccept deposits and make loans
• Other Financial Institutionsinsurance companies,
  finance companies, pension funds, mutual funds
  and investment banks
• Financial Innovation
• The information age and e-finance
• Derivatives
• Securitization

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Money and Business Cycles

• Recessions (unemployment) and booms (inflation)
  affect all of us
• Monetary Theory ties changes in the money supply
  to changes in aggregate economic activity and the
  price level

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Money and Inflation

• The aggregate price level is an average price of
  goods and services in an economy
• A continual rise in the price level (inflation)
  affects all economic players

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Monetary and Fiscal Policies

• Monetary policy is the management of the money
  supply and interest rates
• Conducted by the Federal Reserve Bank (Fed)
• Fiscal policy is government spending and taxation
  
• Any deficit must be financed by borrowing
  government borrowing affects interest rates

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Bernankes Focus

• Inflation Targeting
• Adjust real rate of interest with eye on
  pre-announced target rate of inflation
• Wiggle room for other objectives/emergencies
• Transparency and accountability
• Joined by Mishkin on Board of Governors
• Other Governors
• www.federalreserve.gov/bios
• Oppose Deflation
• Great Depression and clogged credit channel

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Core Principles of Money and Banking

• Time has Value ? Interest rate
• Risk Requires Compensation
• Financial decisions are based on Information and
  on TRUST
• Markets set prices and allocate resources
• Stability reduces risk and spurs enterprise

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Where to Find the Numbers

• http//research.stlouisfed.org/fred2/
• www.federalreserve.gov/releases/
• www.economist.com
• www.bea.doc.gov
• http//www.gpoaccess.gov/eop/

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Function of Financial Markets

• Channel funds from economic players that have
  saved surplus funds to those that have a shortage
  of funds
• Promotes economic efficiency by producing an
  efficient allocation of capital
• increases production
• Improves consumer well-being
• allows them to time purchases better

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Structure of Financial Markets

• Debt and Equity Markets
• Primary and Secondary Markets
• Investment Banks underwrite securities in primary
  markets
• Brokers and dealers work in secondary markets
• Exchanges and Over-the-Counter (OTC) Markets
• Money and Capital Markets
• Money markets deal in short-term debt instruments
• Capital markets deal in longer-term debt and
  equity instruments

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Internationalization of Financial Markets

• Foreign Bondssold in a foreign country and
  denominated in that countrys currency
• Eurobondbond denominated in a currency other
  than that of the country in which it is sold
• Eurocurrenciesforeign currencies deposited in
  banks outside the home country
• EurodollarsU.S. dollars deposited in foreign
  banks outside the U.S. or in foreign branches of
  U.S. banks
• World Stock Markets

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Function of Financial Intermediaries Indirect
Finance

• Lower transaction costs
• Economies of scale
• Liquidity services
• Reduce Risk
• Risk Sharing (Asset Transformation)
• Diversification
• Asymmetric Information
• Adverse Selection (before the transaction)more
  likely to select risky borrower
• Moral Hazard (after the transaction)less likely
  borrower will repay loan

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Regulation of the Financial System

• To increase the information available to
  investors
• Reduce adverse selection and moral hazard
  problems
• Reduce insider trading
• To ensure the soundness of financial
  intermediaries
• Restrictions on entry
• Disclosure
• Restrictions on Assets and Activities
• Deposit Insurance
• Limits on Competition
• Restrictions on Interest Rates

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