DSST Money and Banking flashcards

32 cards. Read the term and the definition here. The deck at the top of this page is optional.

Medium of exchange

The function of money that lets people buy and sell without barter, avoiding the double coincidence of wants. It requires general acceptability and low transaction cost.

Fiat money

Money that has no intrinsic commodity value and is not convertible into gold or silver. Its value rests on government legal tender status, scarcity, and public confidence.

M1 money supply

The narrowest measure of money: currency held by the public outside banks plus checkable deposits and traveler's checks. It emphasizes money's role as a medium of exchange.

Liquidity

The ease and speed with which an asset can be converted into money at low cost and without significant loss of value. Money itself is the most liquid asset.

Adverse selection

An asymmetric information problem arising before a transaction, in which lenders cannot distinguish good from bad borrowers, so risky borrowers crowd out safe ones.

Moral hazard

An asymmetric information problem arising after a transaction, in which a borrower takes on more risk because the lender bears part of the loss. Monitoring and collateral reduce it.

Yield to maturity

The interest rate that equates a bond's present value of future coupon and principal payments to its current market price. It is the bond's internal rate of return.

Current yield

Annual coupon payment divided by the bond's current market price. It ignores capital gains or losses, so it differs from yield to maturity for bonds not priced at par.

Fisher equation

The relationship that the nominal interest rate equals the real interest rate plus expected inflation, approximately. Exact form: (1 + real)(1 + inflation) minus one.

Inverted yield curve

A term structure in which short-term interest rates exceed long-term rates. It often signals expected policy easing and has preceded several U.S. recessions.

Primary market

The market in which new securities are issued and sold by corporations or governments to raise funds, as in an initial public offering. Proceeds go to the issuer.

Federal funds rate

The interest rate banks charge each other for overnight loans of reserve balances at the Federal Reserve. The FOMC sets a target for it as its main policy instrument.

Open market operations

The Federal Reserve's buying and selling of government securities to change bank reserves and the federal funds rate. Buying adds reserves; selling drains them.

Dual mandate

The Federal Reserve's statutory goals of maximum employment and price stability. The Fed formally adopted a 2 percent inflation target in 2012.

Federal Open Market Committee

The Fed committee that sets the target federal funds rate and directs open market operations. It meets about eight times a year.

Discount rate

The interest rate Federal Reserve Banks charge depository institutions for short-term borrowing at the discount window. It is set by Reserve Bank boards with Board approval.

Equation of exchange

The identity M times V equals P times Y, where M is money stock, V velocity, P the price level, and Y real output. It underlies the quantity theory of money.

Money multiplier

The ratio of the money supply to the monetary base, equal to (1 + currency ratio) divided by (reserve requirement + excess reserve ratio + currency ratio).

Monetary base

High-powered money consisting of currency in circulation plus bank reserves held at the central bank. It is the foundation for the money supply through the money multiplier.

Quantity theory of money

The proposition that sustained money growth in excess of real output growth produces inflation in the long run, assuming velocity and real output are stable.

Liquidity trap

A situation where nominal interest rates are near zero, so adding money does not stimulate spending and conventional monetary policy loses effectiveness.

Phillips curve

The inverse short-run relationship between unemployment and inflation. In the long run it is vertical at the natural rate of unemployment.

Balance of payments

A systematic record of all economic transactions between a country and the rest of the world, comprising the current, capital, and financial accounts.

Purchasing power parity

The theory that exchange rates adjust so that identical goods cost the same across countries in the long run. It fails short-run because of trade barriers and nontradables.

Currency appreciation

An increase in the value of one currency relative to another under a floating exchange rate. It makes imports cheaper and exports more expensive abroad.

Interest rate parity

The condition that the difference between domestic and foreign interest rates equals the expected change in the exchange rate, preventing risk-free arbitrage across currencies.

Trilemma

The principle that a country cannot simultaneously maintain a fixed exchange rate, free capital mobility, and independent monetary policy; it can choose only two.

Reserve requirement

The minimum fraction of checkable deposits that banks must hold as reserves at the central bank or as vault cash. Raising it contracts the money supply.

Risk-based capital ratio

A bank's qualifying capital divided by its risk-weighted assets, with safer assets carrying lower weights. Basel III sets minimum requirements and buffers.

Maturity mismatch

The practice of funding long-term assets such as loans with short-term liabilities such as deposits, which exposes a bank to liquidity and interest rate risk.

CAMELS rating

A supervisory rating of banks based on Capital adequacy, Asset quality, Management, Earnings, Liquidity, and Sensitivity to market risk. Higher ratings mean greater supervisory concern.

Deposit insurance

Government protection of depositors up to a statutory limit per depositor per bank. It prevents runs but creates moral hazard, offset by capital and supervision.