Chapter Eleven: Money and Banking

“Money is whatever is generally accepted in exchange for goods and services—accepted not as an object to be consumed but as an object that represents a temporary abode of purchasing power to be used for buying still other goods and services.”

-- Milton Friedman

Chapter 11 Assent of Money.

What is Money?1. Money is anything that is generally acceptable to

sellers in exchange for goods and services.

2. Paper money ONLY has value because WE all agree that it has worth. Gold/Silver Bugs.

3. The stronger that people believe in the strength of a gov’t AND its economy, the more valuable the currency.

4. Hard v. Soft money.

Why We Need Modern Money.

1. Medium of exchange.

2. Measure of value.

3. Store of value.

4. Easy to carry around.

5. Without it, we have no modern economy.

Money in Early Societies.1.Commodity money: tea bricks, tobacco leaves, even

salt or spices.

2. Why salt/pepper spices?

3. Gold and silver. Why is it STILL of high value?

4. Paper currency or bank notes.

5. Fiat Money- All modern money today is by gov’t fiat. Even the U.S.

History of Money

The First Evolutionary Step

From barter trade to commodity money.

Barter Limitations:

1.Barter depends upon the coincidence of wants and needs.

2. All ag. products rot!

3. Moving bulk products are difficult.

4. Money overcomes the above weaknesses.

Examples of Commodity Money1. Various commodities have

historically served as money – Cattle, tobacco, sugar, salt,

spices, grains, nails, shells, hides, metals, etc.

2. But the transaction is still essentially a barter trade of one good or service for another good.

Commodity Money

The Second Evolutionary Step

From commodity money to credit money.

“Some ingenious goldsmith conceived the epoch-making notion of giving notes not only to those who had deposited metal, but to those who came to borrow it, and so founded modern banking.”

Hartley Withers, The Meaning of Money.

What is money?

Privately Issued Bank Notes.Gold or silver was deposited and the

depositor got a “receipt” stating the amount in the bank.

This “receipt” could be transferred to another person without actually seeing the gold or silver.

“Receipts” turned into bank notes-Money.

Characteristics of Successful Money.1. Portability.

2. Durability.

3. Divisibility.

4. Limited availability.

Abuses of (Wild Cat) State Banks

1. State banks printed too much money for the gold/silver they had on hand. Why would they do this?

2. Too much printed money lessened its value. Why?

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“Not Worth a Greenback!”1. America’s first fiat paper money was during

the Civil War.

2. Americans didn’t accept it.

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The Gold Standard. 1900 Congress passed the Gold Standard Act.

Advantages:

1. People trust it.

2. Helps prevent the gov’t from printing too much money.

3. Dollar was strong!

4. Stopped inflation.

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Gold Standard

Gold Standard.

Disadvantages:

1. Gold may not grow fast enough for the economy.

2. There may be a “Run” on gold during panics.

3. The price of gold will change.

4. The gov’t may fail to carry out the policy.

5. Gold stunted our economic growth.

6. Remember “U.S.S Central America?”

Nixon

Redeemable For Gold

Why Paper Currency is NOW accepted as a Means of Payment

1. Paper money FIAT money is a 20th century invention.

2. Until 1972, the U.S. money was backed by gold or silver.

3. Not enough gold to allow the economy to grow.

4. Made U.S. Exports more expensive.

5. IF a country falls apart OR ceases to exist, the money is worthless.

6. Fiat money usually leads to inflation.Gold Standard/Inflation.

U.S. Economic Growth Strangled by Lack of Gold.1. From Colonial times till the California Gold

Rush, lack of gold stunted U.S. growth.

2. Large silver production from the West, especially from Nevada.

3. William Jennings Bryan lead the “Bimetallism” movement.

4. ”…you shall not crucify mankind upon a cross of gold.”

5. What did he mean?

Morgan Silver Dollar. Special Law for Silver

Mines?

Money No Longer Printed

Why Doesn’t The Gov’t Print Anything Higher Than This Bill Today?

U.S. Educational Money Banned in Boston

Electricity surrounded by other allegorical figures, representing the dominant force in the world. The United States Capitol building can be seen behind the female figures. Ulysses S. Grant, Philip Sheridan.

Science presents Steam and Electricity to Commerce and ManufactureScience (center) presents Steam and Electricity (the two children) to the more mature figures of Commerce (left) and Manufacture (right). Robert Fulton & Samual Morse.

History Instructing Youth.Goddess History instructing a youth, pointing to a panoramic view of the Potomac River and Washington D.C. The Washington Monument and the US Capitol Building are visible in the background. The United States Constitution is displayed to the right. Circling the motif are the last names of famous Americans. Some of those listed are: (George) Washington, (Benjamin) Franklin, (Thomas) Jefferson, (Robert) Fulton, (Samuel F.B.) Morse, & (Ulysses S.) Grant.

Financial Intermediaries,or Banks.

Financial intermediaries are firms that take deposits from households and firms and make loans to other households and firms.

Financial IntermediariesFour Types of Financial Intermediaries

1) Commercial banks.

2) Savings and Loan associations.

3) Savings banks and credit unions.

4) Money market mutual funds.

Role of Banks? 1.Banks recycle(Loans) and help circulate money.

2. With out banks, the economy would dry up.

3. Great Depression made worse by consumer lack of faith in banks.

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Bank Panics and Crisis – 1873 – 1907.

1. Central Banks created and destroyed from 1791 – 1836.

2. 1837 to 1912, “Free” banking period. Disaster!

3. 1907 Bank Panic was stopped by Pierpont Morgan, richest person in world.

4. Morgan/other mega rich people/gov’t officials meet secretly(Until 1930.) on Jekyll Island in 1910 to “Duck” hunt.

5. They create the the ground work for the Federal Reserve System “FED” or U.S. Central Bank of 1913.

Development of Modern Banking.

1.Federal Reserve System:

2. Central Bank.

3. F.D.I.C. Federal Deposit Insurance Commission.

4. Sets interest rates, reserves, and issues bonds.

5. Takes over failing banks.Federal Reserve/Banks.

Deposit Insurance – F.D.I.C.

1. F.D.I.C. prevents bank panics and stops depositors, from rushing to withdraw their funds out of panic.

2. Bank runs have ruined perfectly health banks.

3. The Federal Deposit Insurance Corporation (FDIC) was created in 1933.

4. Very few countries, if any, have a F.D.I.C. insurance system.5. Japan have banks, but have no F.D.I.C like insurance, so

many people deposit money in their national post office. NO interest paid OR loans given.

Its a Wonderful Life - 51 Minutes.

Bank Run 51 mins.

Savings and Loan Crisis

1. Savings and Loans deregulated by 1982 so they could be like “regular” banks.

2. Many S&L’s took many investment risks like investing in Junk Bonds.

3. F.D.I.C. and the gov’t had to bail out the industry with 500 billion current dollars in 1985. 1.2 trillion in constant dollars.

4. 534 bank Co. failures/$500 million bail out.

Real Estate Bubble and the “FED.”

1. Housing collapse of 2007.

2. “Sub Prime” loans.

3. Massive insurance failures-Credit Default Swaps.

4. Investment firm failures.

5. Bank failures.

6. Auto bail out.

7. “Too big to fail.”

8. T.A.R.P. = Troubled Asset Relief Program.

Romney’s Folly of Ohio?

The $1.2 trillion peak on Dec. 5, 2008 -- the combined outstanding balance under the seven programs tallied by Bloomberg -- was almost three times the size of the U.S. federal budget deficit that year and more than the total earnings of all federally insured banks in the U.S. for the decade through 2010, according to data compiled by Bloomberg.

What Does This Have In Common with the Bailout? Marshal Plan.

Louisiana Purchase.

Entire Moon Program.

Savings and Loan Crisis.

5. Korean War.

Both Iraq Wars.

The war in Afghanistan.

Vietnam War.

N.A.S.A’s Entire history.