6. How much money has an economy? Money • Money is everything considered money. Money is recognized by its three main functions. • Medium of exchange. Goods can be generally obtained in exchange for money, that is, money must can be used to make purchases of goods. • Store of value. Money has the ability to preserve (at least part) of its purchasing power in time: it is a way of accumulating purchasing power. • Unit of account. The value of goods is expressed in http://stephenlaughlin.posterous.com/buy‐an‐100‐trillion‐zimbabwe‐dollar‐bank‐note terms of money (this was the € from 1999 to 2002). http://en.wikipedia.org/wiki/Zimbabwean_dollar II 1 II 2 Fiat money Our currency: the euro • Essentially, money is anything which is generally • The euro (sign: €; code: EUR) is the official accepted as a payment for goods. currency (= physical money) of the 17 members of the eurozone (officially called euro area): A, B, C, E, • But money is accepted in exchange for goods FI,FR,GE,GR,IR,IT,L,M,N,P,SLA,SLE,&SP. because of the belief that it will be subsequently accepted in exchange for goods. • The euro was born in Jan. 1999 as a unit of account and became currency on 1 Jan. 2002. It is managed • To reinforce that belief, originally money had to by the Eurosystem: the European Central Bank have intrinsic value: money itself was a good (like plus the central banks of the eurozone members. cattle or silver: commodity money). With time, it became unnecessary for money to have intrinsic • It is the 2nd most traded currency in the world, value. Money is now fiat money: intrinsically after the $. By mid‐2010, it surpassed the $ as the worthless pieces of paper and metal. currency with highest value in circulation (€800 b.). II 3 II 4 II 6 Eurozone / European Union Euro coins in circulation (value) million € http://aviagemdosargonautas.blogs.sapo.pt/437873.html 10000 2€ 9500 9000 8500 8000 7500 7000 1€ 6500 6000 5500 5000 4500 4000 3500 50 c 3000 2500 20 c 2000 10 c 1500 1000 5 c 2 c 500 1 c 0 2002Feb 2003Feb 2004Feb 2005Feb 2006Feb 2007Feb 2008Feb 2009Feb 2010Feb 2011Feb 2012Feb II 5 2002Aug 2002Nov 2003Aug 2003Nov 2004Aug 2004Nov 2005Aug 2005Nov 2006Aug 2006Nov 2007Aug 2007Nov 2008Aug 2008Nov 2009Aug 2009Nov 2010Aug 2010Nov 2011Aug 2011Nov 2012Aug 2012Nov 2002May 2003May 2004May 2005May 2006May 2007May 2008May 2009May 2010May 2011May 2012May Introduction to macroeconomics 21 January & 4 February 2013 IIMoney 1 II 7 II 8 Euro coins in circulation (% of value) € banknotes in circulation (quantity) 42 millions 2€ 6200 40 6000 http://www.ecb.int/stats/euro/circulation/html/index.en.html 38 5800 5600 50 € 36 http://sdw.ecb.europa.eu/browse.do?node=5274891 5400 34 5200 5000 32 4800 30 4600 1€ 4400 28 4200 26 4000 3800 24 3600 22 3400 3200 20 3000 20 € 18 2800 2600 16 2400 14 2200 10 € 50 c 2000 12 1800 10 20 c 1600 8 1400 1200 10 c 6 1000 5€ 800 100 € 5 c 4 500 € 600 2 c 2 400 200 € 1 c 0 200 0 2002Feb 2003Feb 2004Feb 2005Feb 2006Feb 2007Feb 2008Feb 2009Feb 2010Feb 2011Feb 2012Feb 2002Aug 2002Nov 2003Aug 2003Nov 2004Aug 2004Nov 2005Aug 2005Nov 2006Aug 2006Nov 2007Aug 2007Nov 2008Aug 2008Nov 2009Aug 2009Nov 2010Aug 2010Nov 2011Aug 2011Nov 2012Aug 2012Nov 2002May 2003May 2004May 2005May 2006May 2007May 2008May 2009May 2010May 2011May 2012May 2002Jul 2003Jul 2004Jul 2005Jul 2006Jul 2007Jul 2008Jul 2009Jul 2010Jul 2011Jul 2012Jul 2002Apr 2002Oct 2003Apr 2003Oct 2004Apr 2004Oct 2005Apr 2005Oct 2006Apr 2006Oct 2007Apr 2007Oct 2008Apr 2008Oct 2009Apr 2009Oct 2010Apr 2010Oct 2011Apr 2011Oct 2012Apr 2012Oct 2002Jan 2003Jan 2004Jan 2005Jan 2006Jan 2007Jan 2008Jan 2010Jan 2011Jan 2012Jan 2009Jan II 9 € banknotes in circulation (% quantity) II 10 42 40 http://www.ecb.int/stats/euro/circulation/html/index.en.html 38 36 34 50 € 32 30 28 26 24 22 20 € 20 18 https://stats.ecb.europa.eu/stats/download/bkn_coins_quant/bkn_coins_quant/bkn_coins_quant.pdf 16 10 € 14 5€ 12 10 8 100 € 6 500 € 4 2 200 € 0 2002Jul 2003Jul 2004Jul 2005Jul 2006Jul 2007Jul 2008Jul 2009Jul 2010Jul 2011Jul 2012Jul 2002Apr 2002Oct 2003Apr 2003Oct 2004Apr 2004Oct 2005Apr 2005Oct 2006Apr 2006Oct 2007Apr 2007Oct 2008Apr 2008Oct 2009Apr 2009Oct 2010Apr 2010Oct 2011Apr 2011Oct 2012Apr 2012Oct 2002Jan 2003Jan 2004Jan 2005Jan 2006Jan 2007Jan 2008Jan 2010Jan 2011Jan 2012Jan 2009Jan II 11 II 12 https://stats.ecb.europa.eu/stats/download/bkn_notes_quant/bkn_notes_quant/bkn_notes_quant.pdf https://stats.ecb.europa.eu/stats/download/bkn_notes_val/bkn_notes_val/bkn_notes_val.pdf Introduction to macroeconomics 21 January & 4 February 2013 IIMoney 2 Monetary aggregates Technical definitions of money (ECB) • Narrow money (M1) includes currency, i.e. banknotes and • Monetary aggregates are technical ways of defining coins, as well as balances which can immediately be (measuring the amount of) money. converted into currency or used for cashless payments. • M0 = monetary base = high‐poweredmoney=E+R • ʺIntermediateʺ money (M2) comprises narrow money (M1) and, in addition, deposits with a maturity of up to two . E = currency held by the public (cash) years and deposits redeemable at a period of notice of up to . R = bank reserves = currency in bank vaults + the three months. Depending on their degree of moneyness, such banks’ deposits at the central bank deposits can be converted into components of narrow money. • Broad money (M3) comprises M2 and marketable instru‐ •M1=E+D(money stock, money supply, monetary mass) ments issued by the MFI (Monetary Financial Institutions) . D = deposits = non‐interest‐bearing accounts at banks sector. Certain money market instruments (money market • M2 = M1 + savings deposits fund shares/units and repurchase agreements) are included in this aggregate. A high degree of liquidity and price cer‐ • M3 = M2 + time deposits + others tainty make these instruments close substitutes for deposits. II 13 II 14 II 15 II 16 Monetary aggregates, levels, eurozone Monetary aggregates, growth, eurozone 15 5200 14,5 M1 5000 http://www.ecb.int/stats/money/aggregates/series/html/index.en.html M1 14 4800 13,5 4600 13 M3 4400 12,5 12 4200 11,5 4000 11 3800 10,5 3600 10 3400 M2M1 9,5 9 3200 8,5 3000 8 2800 7,5 2600 7 2400 6,5 2200 6 5,5 2000 5 M2 1800 4,5 1600 4 1400 3,5 1200 3 2,5 1000 2 800 1,5 600 M3M2 1 400 0,5 http://www.ecb.int/stats/money/aggregates/series/html/index.en.html 200 0 -0,5 0 JAN-1980 JAN-1981 JAN-1982 JAN-1983 JAN-1984 JAN-1985 JAN-1986 JAN-1987 JAN-1988 JAN-1989 JAN-1990 JAN-1991 JAN-1992 JAN-1993 JAN-1994 JAN-1995 JAN-1996 JAN-1997 JAN-1998 JAN-1999 JAN-2000 JAN-2001 JAN-2002 JAN-2003 JAN-2004 JAN-2005 JAN-2006 JAN-2007 JAN-2008 JAN-2009 JAN-2010 JAN-2011 JAN-1980 JAN-1981 JAN-1982 JAN-1983 JAN-1984 JAN-1985 JAN-1986 JAN-1987 JAN-1988 JAN-1989 JAN-1990 JAN-1991 JAN-1992 JAN-1993 JAN-1994 JAN-1995 JAN-1996 JAN-1997 JAN-1998 JAN-1999 JAN-2000 JAN-2001 JAN-2002 JAN-2003 JAN-2004 JAN-2005 JAN-2006 JAN-2007 JAN-2008 JAN-2009 JAN-2010 JAN-2011 JAN-2012 7. Why do financial assets exist? The business of making money • Every activity taking place in an economy can be • In a (modern) monetary economy, goods are typi‐ assigned to one of two sides. cally not exchanged for goods but for (fiat) money. • In the real side of the economy, goods (= goods & • Therefore, the first activity in which people must services) are exchanged for money. Wealth (goods) engage in a monetary economy is raising money. is generated in the real side. • One way of raising money consists of selling goods • In the financial side, financial assets (which in others want. Thus, one may sell his/her time for a essence are promissory notes or money substitutes) wage or a good he/she can produce for a price. are exchanged for money (or other financial assets). • Though each side has a life of its own, most of • What if one has no good others may want? Then what happens in an economy is the result of the one can raise money by issuing a financial asset, interaction between these two sides. which is little more than a promise of payment. II 17 II 18 Introduction to macroeconomics 21 January & 4 February 2013 IIMoney 3 Financial assets Enter interest rates • A financial asset is basically an IOU: a paper where • Suppose you know you will get 1,000 € in a month someone acknowledges a debt (“I owe you”). and need (or want) them today. You then issue a financial asset stating that you will pay 1,000 € in a • A financial asset is a substitute for money, as it month to the bearer (owner) of the asset. represents a promise today to pay money in the future. It is a way of capitalizing future revenues. • But it will illusory to expect to sell that asset for • Suppose you do not have money today, but expect 1,000 €, for the buyer gives 1,000 € and receives you will have in the future. A financial asset is like 1,000 € in a month: the buyer losses the possession a time machine allowing you to take your money of 1,000 € for a month in exchange for nothing. back from the future: you issue an IOU and sell it • So the asset must be sold for less than 1,000 €. The today for money. Problem: part of your future interest rate of the asset is its implicit rate of return.