CONTEMPORARY ECONOMICS © Thomson South-Western

16.3 Money, Near Money, and Credit Cards

Describe the narrow definition of money.Explain why distinctions among definitions

of money have become less meaningful over time.

Objectives

CONTEMPORARY ECONOMICS © Thomson South-Western

16.3 Money, Near Money, and Credit Cards

M1checkable depositsM2

Key Terms

16.3 Money, Near Money, and Credit Cards SLIDE

3

CONTEMPORARY ECONOMICS © Thomson South-Western

Narrow Definition of Money: M1

Money aggregates are various measures of the money supply.

The narrow definition, called M1, consists of currency (including coins) held by the nonbanking public, checkable deposits, and traveler’s checks.

16.3 Money, Near Money, and Credit Cards SLIDE

4

CONTEMPORARY ECONOMICS © Thomson South-Western

Currency in Circulation

Dollar bills and coins in circulation are part of the money supply as narrowly defined.

Money in bank vaults or on deposit at the Fed is not in circulation as a medium of exchange and so is not counted in the money supply.

Currency makes up about half of M1.

16.3 Money, Near Money, and Credit Cards SLIDE

5

CONTEMPORARY ECONOMICS © Thomson South-Western

U.S. Currency Abroad

More than half of all Federal Reserve notes, particularly $100 notes, are in foreign hands.

Wealthy people around the world, especially in unstable countries or countries that have experienced high inflation, often hoard U.S. currency as insurance against hard times.

Some countries, such as Panama, Ecuador, and El Salvador, even use U.S. dollars as their own currency, a process called dollarization.

16.3 Money, Near Money, and Credit Cards SLIDE

6

CONTEMPORARY ECONOMICS © Thomson South-Western

Counterfeiting

Improvements in copy machines, computers, and printers allow even amateurs to make passable counterfeits of U.S. currency.

U.S. currency is being redesigned to make it harder to copy.

The Fed and the Treasury have announced plans to redesign the currency every 7 to 10 years.

16.3 Money, Near Money, and Credit Cards SLIDE

7

CONTEMPORARY ECONOMICS © Thomson South-Western

Checkable Deposits

Checkable deposits—deposits in financial institutions against which checks can be written and ATM, or debit, cards can be applied

About half of checkable deposits are demand deposits.

In recent years, banks have developed other types of checking accounts,

Checkable deposits of all types make up nearly half of M1.

16.3 Money, Near Money, and Credit Cards SLIDE

8

CONTEMPORARY ECONOMICS © Thomson South-Western

Traveler’s Checks

Users sign traveler’s checks twice.Once at the bank at the time of purchaseAgain when the check is spent

A merchant compares the two signatures to confirm the user is the rightful owner.

Traveler’s checks are safer than cash because they can be replaced in the event of loss or theft.

Traveler’s checks are a tiny part of the money supply—only about 1 percent of M1.

16.3 Money, Near Money, and Credit Cards SLIDE

9

CONTEMPORARY ECONOMICS © Thomson South-Western

Broader Definitions of Money: M2

M2—A broader definition of the money supply, consisting of M1 plus savings deposits, small-denomination time deposits, and money market mutual fund accounts owned by households

16.3 Money, Near Money, and Credit Cards SLIDE

10

CONTEMPORARY ECONOMICS © Thomson South-Western

Savings Deposits

Savings deposits earn interest but have no specific maturity date.

This means that you can withdraw them any time without a penalty.

16.3 Money, Near Money, and Credit Cards SLIDE

11

CONTEMPORARY ECONOMICS © Thomson South-Western

Time Deposits

Time deposits earn a fixed rate of interest if held for a specified period. The holding period ranges from several

months to several years. Holders of time deposits are issued

certificates of deposit, or CDs for short. Early withdrawals are penalized by forfeiture

of several months’ interest.

16.3 Money, Near Money, and Credit Cards SLIDE

12

CONTEMPORARY ECONOMICS © Thomson South-Western

Money Market Mutual Fund Accounts

Money market mutual fund accounts are another component of the money supply more broadly defined as M2.

Funds deposited in these accounts are used to purchase a collection of short-term interest-earning assets by the financial institution that administers the fund.

16.3 Money, Near Money, and Credit Cards SLIDE

13

CONTEMPORARY ECONOMICS © Thomson South-Western

Debit Cards but Not Credit Cards

A credit card itself is not money.Using a credit card is a convenient way of obtaining a

short-term loan from the card issuer. You don’t use money until you pay your credit card

bill. The credit card has not eliminated your use of money.It has merely delayed it.

When you use a debit card you draw down your checking account—part of M1.

16.3 Money, Near Money, and Credit Cards SLIDE

14

CONTEMPORARY ECONOMICS © Thomson South-Western

Electronic Money

Much of modern money consists of electronic entries in bank computers.

So, money has evolved from a physical commodity to an electronic entry.

Money today not so much changes hands as it changes computer accounts through electronic funds transfers.