3/9/16
Time Value of Money
I. Is a dollar today
worth more than a dollar tomorrow? Yes
II. Why? Opportunity Cost
and inflation. This is the reason for charging and paying interest
Let
v= future value of $
p= present value of $
r= real interest rate (nominal rate minus inflation rate) (express as
decimal)
n= years
k= number of times interest is credited per year
- Simple interest rate~ v=(1+r)^n * p
- Compound interest rate~ v=(1+ r/k)^nk *p
Demand
for money has an inverse relationship between the nominal interest rate the
quantity of money demanded
I. What happens to the
quantity of money of moneyed when the interest increases? Quantity demanded
falls
II. What happens to the
quantity demand when interest rates decrease? Quantity demanded increases.
Demand Always Downward
Money Demand Shifters
I. Changes in the price
level
II. Changes in income
III. Changes in taxation
that affects investment
Increase
money supply, decreases interest rates, investment increases, AD increases and
shifts right
Decreasing
money supply, increases interest rates, investment decreases, AD decreases and
shift left
·
Financial Sector
-Financial assets are
what you own
-Financial
Liabilities is what you owe
·
Interest Rate
-the cost of
borrowing money
·
Stocks
-simply conveying
ownership in a company
·
Bonds
-loaning money to the
government
Bonds
are safe; stocks are not.
What Banks Do
A
bank is a financial intermediary
*
Uses
liquid assets (i.e. bank deposits) to finance the investment of borrowers
**
Process
is known as Fractional Reserve Banking, a system in which deposits institution
hold liquid assets less than the amount of deposits
***
Can
take the form
A.)
Currency
in bank vaults
B.)
Bank
reserve deposits held at the Federal reserve
- T- Account (balance sheet)
- Assets- Items to which a bank hold legal claim
- Uses of funds by financial intermediates liabilities
(amount owned)
- Legal claims against sources of fund financial
intermediaries
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