PSCI 150 : INTRODUCTION TO ECONOMICS Bachelor of Political Science, KIRKHS, IIUM

1. PSCI 1500:
Introduction to Economics
Money & Banking

2. MONEY & EXCHANGE
 Money - anything generally accepted as medium
of exchange.
 Value of Money - Measured by the goods,
services, and resources that money can purchase.
 Barter System - Goods/services exchanged for
each other rather than for money

3. Functions of Money
i. Medium of Exchange
 Something that is generally accepted as payment for
goods, services, and resources.
ii. Measure of Value
 Value of every good, service, and resource expressed
in terms of an economy’s base unit of money.
iii. Method for Storing Wealth & Delaying Payment
 Allows for saving, or storing wealth for future use, and
permits credit, or delayed payments.
MONEY

5. MONEY SUPPLY
M1
Narrowest definition of money supply.
Includes - coins, paper money in circulation,
traveler’s checks, demand deposits, other
checkable deposits.

6. MAJOR COMPONENTS OF M1
Currency
 Coins and paper money.
Token Money
 Money with a face value greater than the value of the
commodity from which it is made.
Federal Reserve Notes
 Paper money issued by the Federal Reserve Banks.
Demand Deposits
 Checking account balances kept primarily at
commercial banks.
Other Checkable Deposits
 Interest-bearing accounts similar to demand deposits
offered by financial institutions.

7. M2
Includes M1 and:
- Savings, small denomination time deposit
accounts, money market deposit accounts, and
other financial instruments which are highly
liquid.
M3
Includes M2 and:
- Other financial components which are relatively
less liquid.
MONEY SUPPLY

8. MONEY SUPPLY

9. Terms for Money Supply
 Liquidity
 Ease of converting an asset to its value in cash or
spendable funds.
 Velocity
 Average number of times the money supply is
turned over in a year in relationship to GDP.
MONEY SUPPLY

10. MONETARY STANDARDS
(US CASE SCENARIO)
 Commodity Monetary Standard – refers to an
economy’s money is backed by something of
tangible value such as gold or silver.
• Prior to 1933 the U.S. had a gold-coin standard
where gold not only backed the money supply but
also freely circulated in the hands of the public.
• From 1934 to 1971 the U.S. had a gold-bullion
standard, where gold backed the money supply but
was no longer available to the general public.

11. MONETARY STANDARDS
(US CASE SCENARIO)
 Paper Monetary Standard - refers to an
economy’s money is not backed by anything of
tangible value such as gold or silver.
• Since 1971 the U.S. economy has been on a
paper monetary standard.
• After foreign debts were paid off in gold bullion
and the U.S. gold reserves were nearly
exhausted, U.S. no longer allowed to back its
money with gold.

13. Lawmakers in Arizona are poised to follow Utah, which authorized bullion for currency in
2011. Similar bills are advancing in Kansas, South Carolina and other states.

14. Denomination Value (RM)
1 Dinar RM 654.00
1 Dirham RM 25.00

15. FINANCIAL INSTITUTIONS
 Financial Depository Institutions - institution that
specializes in depository lending, accept and
maintain deposits, and make loans.
Have the ability to create and destroy money.
Come in many forms:
Commercial banks
Savings and loan associations
Savings banks
Credit unions

16. FINANCIAL INSTITUTIONS
 Commercial Banks
Primary financial depository institutions.
Institutions that hold and maintain checking
accounts for their customers, make commercial
and other loans, and perform other functions.

17. FINANCIAL INSTITUTIONS
 Banking Agencies
Charter Authority
 National banks are regulated by a federal agency, and
state banks by a state banking agency.
The Federal Reserve
 Regulates its own members and imposes some
uniform regulations on all commercial banks
regardless of membership.
Federal Deposit Insurance Corporation (FDIC)
 Administers regulations and insures deposits in
commercial banks that affiliate with the FDIC.

18. FINANCIAL INSTITUTIONS
 Financial institutions pursue 2 conflicting goals.
1. Profits
• Too cautious to makes few loans thus will make
few profits.
• Not prudent and make excessive loans may hurt
bank assets and profits should some of it turn
default.
• Thus, control is needed not to be on any extreme
side.

19. FINANCIAL INSTITUTIONS
 Financial institutions pursue 2 conflicting goals.
2. Safety (liquidity)
• Safety means having sufficient liquidity to meet
the cash needed by depositors and to meet
transactions as checks clear.
• Banks must balance between profits and liquidity.

20. FINANCIAL INSTITUTIONS
Bank Failure
Occurs when a bank’s assets are no longer sufficient to
cover liabilities that must be paid.
• Usually the result of heavy loan losses and deposit
withdrawals.
• Borrowers not able to pay, banks not able to meet new
demand for loans withdrawals.
• In US, FDIC is the receiver in the event of bank failure,
will back or guarantee the depositors from insured
banks

21. FEDERAL RESERVE SYSTEM
 Organization of the Federal Reserve System (US)
Board of Governors - develops relevant policies on
money, banking, etc.
Open Market Committee - oversees the buying and
selling of government securities by the Fed.
Federal Reserve System - 12 banks that deal with
commercial banks and other financial institutions.

22. FEDERAL RESERVE SYSTEM
 Functions of the Federal Reserve Banks (US)
• Supervise & examine member banks
• Maintain reserve accounts
• Currency circulation
• Check clearing

23. FEDERAL RESERVE SYSTEM

24. FEDERAL RESERVE SYSTEM

25. FEDERAL RESERVE SYSTEM
 Organization of the Federal Reserve System (US)
• Board of Governors - develops relevant policies on
money, banking, etc.
• Open Market Committee - oversees the buying and
selling of government securities by the Fed.
• Federal reserve system - 12 banks that deal with
commercial banks and other financial institutions.
• Federal reserve bank (sometimes known as central
bank or monetary authority) is a public institution that
usually issues the currency, regulates the money
supply, and controls the interest rates in a country.

26. FEDERAL RESERVE SYSTEM
 Functions may include:
 implementing monetary policies i.e. determining
interest rates - used to manage both inflation and the
country's exchange rate, ensuring that this rate takes
effect via a variety of policy mechanisms
 controlling the nation's entire money supply
 the Government's banker and the bankers' bank
("lender of last resort")
 managing the country's foreign exchange and gold
reserves and the Government's stock register
 regulating and supervising the banking industry

27. Explain the 3 functions of money.
i. Medium of Exchange
Something that is generally accepted as payment for
goods, services, and resources.
ii. Measure of Value
Value of every good, service, and resource
expressed in terms of an economy’s base unit of
money.
iii. Method for Storing Wealth & Delaying Payment
Allows for saving, or storing wealth for future use,
and permits credit, or delayed payments.
TEST YOUR UNDERSTANDING

28. What is meant by “money be created and
destroyed by commercial banks”?
Money is created when loans were made and
destroyed when loans are repaid. This is due
to the fact that loan itself is an interest-bearing
assets.
TEST YOUR UNDERSTANDING

29. TEST YOUR UNDERSTANDING
Explain the term “bank failure”?
• Bank Failure - occurs when bank’s assets are not
sufficient to cover liabilities that must be paid.
• Usually the result of heavy loan losses and
deposit withdrawals.
• As such, borrowers not able to pay, banks not able to
meet new demand for loans withdrawals.