What makes money valuable

Understanding Economics: Why Does Paper Money Have Value?

While it may be true that money makes the world go around, it is not inherently valuable. Unless you enjoy looking at pictures of deceased national heroes, these colorfully imprinted pieces of paper have no more use than any other piece of paper. It is only when we agree as a country to assign a value to that paper—and other countries agree to recognize that value—that we can use it as currency.

Gold and Silver Standards

It didn’t always work this way. In the past, money generally took the form of coins composed of precious metals such as gold and silver. The value of the coins was roughly based on the value of the metals they contained because you could always melt the coins down and use the metal for other purposes.

Fiat Money

Since Nixon’s ruling, the United States has operated on a system of fiat money, which means our currency is not tied to any other commodity. The word «fiat» originates in the Latin, the imperative of the verb facere, «to make or become.» Fiat money is money whose value is not inherent but called into being by a human system. So these pieces of paper in your pocket are just that: pieces of paper.

Why We Believe Paper Money Has Value

So why does a five-dollar bill have value and some other pieces of paper do not? It’s simple: Money is a both a good and a method of exchange. As a good, it has a limited supply, and therefore there is a demand for it. There is a demand because people can use the money to purchase the goods and services they need and want. Goods and services are what ultimately matter in the economy, and money is a way that allows people to acquire the goods and services that they need or want. They earn this method of exchange by going to work, which is a contractual exchange of one set of goods—labor, intellect, etc.—for another. People work to acquire money in the present to purchase goods and services in the future.

Our system of money operates on a mutual set of beliefs; as long as enough of us believe in the value of money, for now, and in the future, the system will work. In the United States, that faith is engendered and supported by the federal government, which explains why the phrase «backed by the full faith and credit of the government» means what it says and no more: the money may have no intrinsic value, but you can trust using it because of its federal backing.

Furthermore, it is unlikely that money will be replaced in the near future because the inefficiencies of a purely barter system, in which goods and services are exchanged for other goods and services, are well known. If one currency is to be replaced by another, there will be a period in which you can switch your old currency for new currency. This is what happened in Europe when countries switched over to the Euro. So our currencies are not going to disappear entirely, although at some future time you may be trading in the money you have now for some form of money that supersedes it.

The Future Value of Money

Some economists don’t trust our system of fiat currency and believe we cannot continue to declare that it has value. If the vast majority of us come to believe that our money won’t be nearly as valuable in the future as it is today, then our currency becomes inflated. Inflation of the currency, if it becomes excessive, causes people to want to get rid of their money as quickly as possible. Inflation, and the rational way citizens react to it is bad for the economy. People will not sign profitable deals that involve future payments because they’ll be unsure what the value of money will be when they get paid. Business activity sharply declines because of this. Inflation causes all sorts of other inefficiencies, from a café changing its prices every few minutes to a homemaker taking a wheelbarrow full of money to the bakery in order to buy a loaf of bread. The belief in money and the steady value of the currency are not innocuous things.

If citizens lose faith in the money supply and believe that money will be worthless in the future, economic activity can grind to a halt. This is one of the main reasons the U.S. Federal Reserve acts diligently to keep inflation within bounds—a little is actually good, but too much can be disastrous.

Supply and Demand

Money is essentially a good, so as such is ruled by the axioms of supply and demand. The value of any good is determined by its supply and demand and the supply and demand for other goods in the economy. A price for any good is the amount of money it takes to get that good. Inflation occurs when the price of goods increases—in other words when money becomes less valuable relative to those other goods. This can occur when:

The key cause of inflation increases in the supply of money. Inflation can occur for other reasons. If a natural disaster destroyed stores but left banks intact, we’d expect to see an immediate rise in prices, as goods are now scarce relative to money. These kinds of situations are rare. For the most part, inflation is caused when the money supply rises faster than the supply of other goods and services.

To summarize, money has value because people believe that they will be able to exchange this money for goods and services in the future. This belief will persist so long as people do not fear future inflation or the failure of the issuing agency and its government.

Why is money valuable at all(What drives money)?

Money is a legal tender, a tool, just a worthless paper or just anything that can be used to exchange for a commodity or service rendered. That has been what almost everyone believes. But over time, have we ever asked why money seems to be valuable at all?. Why do we constantly need to have this paper or coin to get what we need and want? What is the thing behind money getting power through its value?

Let us dive in through this and discuss why money is valuable;

The reason why money is valuable is primarily on the simple term of “Demand and Supply”. According to Alfred Marshall in 1890. He propounded the law of demand and supply, and we will see how it gives us the answer to how and why money is valuable. In plain terms, he said, “the value, that is; the price of a commodity; say goods and services are dependent on the demand and supply of that commodity”.

Suppose the demand for commodity increases or the supply decreases. In that case, the value of that commodity increases, and if the need for a commodity decreases or the supply increases, the value of that commodity decreases, all things being equal.

This means that scarcity drives value. Let us have an example; let us imagine that there can only be 100 apples in a country, and due to the sweetness of the fruit, people fell in love with it. Does this mean that there are no other fruits abundant in that country? No, this country may have a lot of bananas, oranges, pawpaw etc., but their primary concern is the supply of apples, right?.

Now, in our imaginary country, the value of apples will be more than almost all the fruits in the country, if not all. Why is this so? As discussed earlier, it may be due to demand increasing or the supply decreasing. We can see that the supply of 100 apples every year is pretty low. Also, talking about the market, some people will want to get the apple because it is scarce only, and demand for it will keep increasing, and it may only be reserved to the top 1% of that country as a show of class.

A quick note here, does this mean that the apple is the best fruit? That can’t be true, but it has value because it appears hard to come by. So the value rises so that it is only distributed to those who can afford it or are in a particular class in the society.

Now, let us bring this concept to money now and slowly, we can see what is typically driving the value of the money we spend.
Before we proceed, don’t let us mistake money for currency, even though they are interchangeable, but currency represents money. Say as the metre is to distance, same as currency is to money.

The population of people working and striving are all your striving to make money. Here we say there is a demand for it, and the demand is through the work hustle done by various people to have more of it to afford their wants.

One more thing that makes money valuable is the belief that people have in their affordability of the money; the better the value of the money is kept. For instance, during wars, the value of the money/currency of the affected nation(s) diminishes.

This is because; 1) The supply may be more than the demand as people in the country may no longer work to get it.

2) The supply of the money keeps increasing (as the treasury of the country may keep printing more money)

3) The citizens in the country may no longer believe in the efficiency and the affordability of their money/currency.

There may be other things that drive the value of money and make money to be valuable, but the things highlighted earlier seem to be the primary factor behind the value of money.

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Ex 2.
a.the sweet shop
b.the confectioner’s
c.the butcher’s
d.the baker’s
e.the grocer’s
f.the fishmonger’s
g.the dairy shop
h.the florist’s
i.the greengrocer’s
j.the stationer’s
k.the clothes shop

Ex 3.
Перевод задания:Составьте предложения о том, как отсортирована эта еда.
1.a bottle of mineral water, olive oil, ketchup, juice.
2.a packet of crisps, teabags, biscuits, sugar.
3.a carton of youghurt, sour cream, milk, condensed milk.
4.a jar of marmelade,honey, gooseberry jam, cucumbers.
5.a can of pepsi-cola,lemonade, coca-cola, beer.
6.a can of tomatoes, dog food, fish, caviar.
7.a bag of flour, potatoes, bread, chicken legs.

Ex 4.
Перевод задания:Поговорите про ваши предпочтения и скажите что:
1.конфеты которые вы покупаете на вечеринки.
2.горячая пища котрую вы едите в кафе или рестаранах.
3.школьный ланч который вы считаете идеальным.
4.пища которую вы не будете есть даже когда вы голодны.
5.одежда, которую вы любите носить на вечеринки.
6.одежда которую вы предпочитаете носить в школе.
7.одежда которую вы не любите носить.
8.падарки которые вы любите дарить и получать.
9.цветы которые вы покупаете своей маме.
10. вы любите покупать и использовать.

Ex 5.
Перевод задания:Псмотрите на рисунки и сравните Английские, Американские и Русские деньги. постарайтесь сравнить цену фунта, доллара и рубля.
Подсказка: there are a hendred pence in a pound. There are a hundred pennies= cents in a dollar.

Ex 6.
Перевод задания:
Составьте историю про маленького волшебника. Начните её с фразы «Однажды жил волшебник. «. Используйте в своей истории следующие словосочетания:
—был филосовом с огромным стремлением к учёбе.
—охваченный редкие способности сделать волшебство.
—был известен в своём окружении
—не имел настоящего образования
—поступил в легендарную школу волшебства
—давал интервью
—отвечал на очень сложные вопросы
—сосредотачивался на задании
—делал своим ответом беспорядок
—имел возможность решить магическую проблему.
—вошедший в спальню без окон и с запертой дверью
—был предупреждён что это был его последний шанс.
—выбил дверь(взял силой)
—был уведомлён что он был зарегестрирован
—чувствовал себя уменьшенным

Ex 7.
Перевод задания:Переведите на английский.
A.
1.to enrol on an English course
2.to force a lock
3.a messy floor in the bedroom
4.legendary characters
5.a rare flower
6.to vanish
7.to concentrate on the new words
8.to queue for ice cream
9.solid advice
10.wizardy and witchcraft
11.to relieve pain
12.to drone on about one’s problems
13.to warn against a risky trip
14.a new caretaker
15.to tickle the kitten behind the ear
16.a squeaky door
B.
Составьте предложения с вышеперечисленными словосочетаниями.

Ex 8.
Перевод задания:Выберите верное слово чтобы завершить предложение.
1.surroundings
2.neighbourhood
3.bedrooms
4.dormitories
5.vanish
6.disappear
7.wizardry
8.witchcraft
9.legendary
10.famous
11.filthy
12.messy
13.force
14.broke

B.
1.It’s time to break away with this harmful habit.
2.Taking off the plane broke down and the flight was postponed for another day.
3.After her mother’s death Polly broke down and got seriously ill.
4.I know that your car is broken down and you have to go to the railway station. You can use mine.
5.Looking at the funny monkey the children broke into laughter.
6.Why did you break into tears, betty? Did you get frightened?
7.«Why have you broken into my house?»- the old man asked the policemen.

Ex 10.
Перевод задания:Развейте идеи как показано в примере.
1.If Harry could sing, he would be an artist.

Ex 13.
1.Today it snows heavier than yesterday.
2.Peter drives most carefully of all.
3.You have worked so hard that now you can take a break.
4.Helen translated the poem best of all in her class.
5.Our new friend smiles warmly at us before leaving the room.
6.Anna sat comfortably in the armchair and swithed on the television.
7.This time Mr Hudson looked at the children more attentively.
8.Little Andrea walked slowest of us and usually legged behind.
9.Why are you smiling so sadly?

Шоппинг в Британии.
1. Возможно два наиболее известных универмага в Лондоне Selfridges и Harrods. Они оба очень большие универмаги. Конечно существует много других универмагов которые находятся в городах Британии.
2. The John Lewis Stores один из них, Marks and Spencer другой. В Лондоне много лучших универмагов находятся на Oxford Street которая известна шоппингом.
3. Из-за соревнований из далёкого запада и дешевизны этих продуктов доходность многих огромных универмагов в опасности и C&A среди них. Между прочим мы привыкли называть его «Пальто и шляпы». Тепреь это шутка. Говоря серьёзно компания переоценивает свои преоритеты, переделывет будущие планы.
4. Забирать средства в этом случае значит отступить или оставить коммерческую область и поэтому закрывать филлиалы магазина. Итак, можно сказать что C&A закрываются.
5. В настоящее время многие люди используют огромные или маленькие супермаркеты не зависимо от того есть у них машина или нет. Некоторые люди используют публичный транспорт- автобусы- чтобы добраться до супермаркета и назад. Но всё равно покупатель обычно покупает много тяжёлых вещей для того чтобы вести их с собой на автобусе. Машина намного полезнее.
6. Ничего. Множество покупок всё ещё делается в маленьких «угловых» магазинах- маленькие магазины на углах улиц. Эти магазины часто могут продавать более специализированные товары которые супермаркеты не продают. К примеру, некоторые предпочитают сведо изгатовленный хлеб и пироженные из пекарни или некоторые препочитают профессионально butched мясо из мясного магазина. Он атк же может сделать свои собственные сосиски. Некоторые люди пойдут в цветочный магазин для покупки букетов чем покупать предотобранные цветы в супермаркете.
7. Tesco is the largest followed by Sainsbury’s,then ASDA which означает «Associated Dairies» и на четчёртом месте John Lewis. Итак есть 4 главных супермаркета.

Ex 16.
Перевод задания:Закончите предложения. Используйте интервью из упражнения 15.
1.The two most famous London department stores are Selfridges and Harrods.
2.The best department stores in London are in Oxford Street.
3.A decision has been recently by the C&ACompany to withdraw from the High Street.
4.We can say that C&A are closing down.
5.Many people use the latge or small supermarkets whether they have a car or not.
6.The small corner shops can often sell more specialized goods which a supermarket does not stock.
7.Tesco is the largest supermarket followed by Sainsbury’s.

Ex 17.
1.Woolworths, C&A, Sainsbury’s, Marks and Spencer, Debenhams, Waterstores.
Информацию о магазинах вы омжете найти в тексте на странице 100.

Ex 18.
Перевод задания:Объясните как вы понимаете эти слова и словосочетания из упражнения 15.

Ex 20.
Перевод задания:Посоветуйте своему другу который ничего не знает об Английский магазинах куда можно пойти и купить еду, одежду, подарки и сувениры в Лондоне.

Exercise 21
Перевод задания: Прочитайте текст про деньги и скажите, какие вещи делают деньги ценными.

Что Делает деньги Ценными?

Ex 23.
1.cash
2.valuable
3.grain
4.cattle
5.to store
6.stamped
7.how much each coin was worth
8.the coins were still worth the amount stamped on them
9.money were backed by the government and banks
10.issued by the government
11.by mowing lawns
12.a «yardstick of value»
13.various things
14.in terms of your work
15.a «storehouse of value»
16.later payments

Ex 27.
1.Open the gate wide!
2.We hardly know each other.
3.What films have you seen lately?
4.I understood my mistake too late.
5.It is widely known what private schools are very prestigious.
6.John fiew the kite high into the sky/
7.I can hardly call you my real friend.
8.It is snowing hard.
9.As he rightly said the word is in danger.
10.Betty lives near the shopping center.
11.Flight 812 arrived too late.
12.He raised his hat high greeting us.
13.The latest novel by this writer is widely known.
14.This time do it right, don’t do it wrong again.
15.Bob was wrongly punished.
16.This job is highly paid.

Ex 28.
1.Все знают, что Нина плохо играет на пианино. 2.Телевизор крайне нуждается в ремонте. 3.Нам очень нужны деньги. 4.Мне очень нужен совет. 5.Я не думаю о нём плохо из-за того, что он так поступил. 6.Джон говорит по-испански, но довольно плохо.

Ex 31.
Уточнение: + = Correct.
1.+
2.+
3.+
4.They managed to play their parts so well that the audience roared with laughter.
5.+
6.I was able to answer all the teacher’s questions and got a five.
7.+
8.+
9.At last we managed to see the film.

Ex 35.
1.Rovert can speak Spanish well enough to talk without an interpreter.
2.Mother, may I come back home art eleven tonight?
3.Farther may repair my broken bicycle.
4.I might come round this evening.
5.They say I can do sums well.
6.Bob may phone this evening.
7.Johnny, dear, can you do something for me?
8.Could you go shopping this evening?
9.I can do the flat myself.
10.It may rain soon.

Ex 39.
1.
C.No. Can you help me? Have you got pink blouses? I wear size 12.
C.OK. Could you show me a navy blue blouse then?
C.May I try it on?
C.Yes, thank you.
C.It fits perfectly.
C.Do you take cards?
C.here you are.
C.thank you.

2.
C.Yes? What can I do for you?
C.What size do you wear?
C.very good. Would you like to look at these?
C.Certainly. How do they feel?
C.Sorry, we don’t have them in larger sizes. We have the same shoed in grey colour.
C.Just a second. Here you are. How do they feel?
C.45 pounds.
C.Thank you. Here’s your receipt and your change.

Ex 40.
Перевод задания:Составьте свой собственный диалог. Поговорите про покупки: а).Одежды, б)обуви, в)подарки.

Ex 43.
1.I have never come across this expression.
2.Just look at these old photographs. I came across them when I was clearing out our old cupboard.
3.Why don’t you come round to our house for dinner on Saturday?
4.The little baby came off his rocking horse.
5.What came over my elder brothet? He let me work on his computer!
6.jane is feeling so bad today. I think she is coming down with a cold.
7.A mysterious change came over their new teacher.
8.I don’t understand what came over the old lady all of a sudden.
9.Look! A button is coming off your blouse!

Ex 44.
firmly-твёрдо
downwards-до низу
eccentric-эксентричный

Ex 45.
worth-стоимость
outfit-снаряжение
fancy dress-модная одежда
fancy-dress-маскарадный костюм
immense-необъятный
reluctantнеохотный
reluctance-нежелание
to attach-прикреплять
attached-прикреплённый
to detach-откреплять
detachable-съёмный
detached-отдельный
to tie-завязывать
a tie-галстук
starch-крахмал
to starch-накрахмалить
stearched-накрахмаленный
stiff-тугой, негнущийся,онемевший
to chew-жевать
chewing gum-жевательная резинка
ridiculous-смешной, нелепый
to flap(flapped, flapping)-взмахивать
funeral-похороны
dignity-достоинство, звание, титул
dignified-благородный, достойный

Урок английского языка «» “The world of Money”

“The world of Money”

1. To develop pupils’ skills in speaking on the theme.
2. To develop thinking and imagination.
3. To develop basic knowledge in economy.

The procedure of the lesson

II. Today we’ll speak about money, what place it takes in everyday life, what makes money valuable.

III. Lexical drill.
Answer my questions:
1. What do we use money for?
2. Do you like to spend money? What for?
3. Where do you get money?

IV. Word study.
Look at the list I have given, find a word box, let’s read the words.
1. Reading in chorus.
2. See if you don’t know any words and ask for definitions. Now look at the pictures and say which five places you can see. Which verbs relate to these places?
3. Complete each of the statements so they are true for you, work in pairs.

V. Work with the text “What makes money valuable?” ex.21 p.103.
1. Silent reading.
2. Work with exercises:
Ex 22 p 104 – say which of these statements ‘false’ or ‘true’.
Ex 23 – find in the text English equivalents.
1)cash; 2)valuable; 3)grain; 4)cattle; 5)store; 6)stamped; 7)how much each coin was worth; 8)coins were still worth the amount stamped on them; 9)it was backed by the government and banks; 10)issued by the government; 11)mow the lawn; 12)yardstick of value; 13)various things; 14)in terms of your work; 15)store house of value; 16)future payments.
Ex 24 – answer the questions.

VI. Creative work (in groups).
1. Look at the pictures. What do you think happened? Discuss and make up your story.
2. Now let’s listen to each group and compare the stories.
3. Listen to the true story.
A young couple were having a romantic dinner at an expensive restaurant. They saw an old lady sitting alone, looking at them. They smiled politely, but were a little surprised when the old lady came over to their table. The old lady told the young woman that she looked just like her daughter who she said had died a year ago. She said it would make her very happy if they said, “Goodbye, Mum’ when she left the restaurant. How could they refuse? A few minutes later, the old lady stood up to leave. The two diners waved, as she had asked them, and said goodbye as the old lady walked out. When the couple received their bill, however, they saw that it included the cost of the old lady’s meal. They called over the manager and asked him what had happened. “The bill includes the charge for your mother’s meal,” he explained. “She said you would pay.”
Do you like the story? Whose story is the closest?

VII. Revision of the grammar. Subjunctive Mood I, II.
What sum of money will be enough for you? Make up your own sentences:
If you had 1000$ what would you buy?
If you had had 1000$ 5 years ago what would you have bought?

VIII. Summary of the lesson
The lesson was interesting. You worked very hard. What do you like most of all?
You’ve learned new words, used them while speaking, made up interesting stories, worked actively in groups and I think got pleasure from this lesson. Thank you.

Modern Money Mechanics/Introduction

The purpose of this booklet is to describe the basic process of money creation in a «fractional reserve» banking system. The approach taken illustrates the changes in bank balance sheets that occur when deposits in banks change as a result of monetary action by the Federal Reserve System — the central bank of the United States. The relationships shown are based on simplifying assumptions. For the sake of simplicity, the relationships are shown as if they were mechanical, but they are not, as is described later in the booklet. Thus, they should not be interpreted to imply a close and predictable relationship between a specific central bank transaction and the quantity of money.

The introductory pages contain a brief general description of the characteristics of money and how the U.S. money system works. The illustrations in the following two sections describe two processes: first, how bank deposits expand or contract in response to changes in the amount of reserves supplied by the central bank; and second, how those reserves are affected by both Federal Reserve actions and other factors. A final section deals with some of the elements that modify, at least in the short run, the simple mechanical relationship between bank reserves and deposit money.

Money is such a routine part of everyday living that its existence and acceptance ordinarily are taken for granted. A user may sense that money must come into being either automatically as a result of economic activity or as an outgrowth of some government operation. But just how this happens all too often remains a mystery.

What is Money? [ edit ]

This transactions concept of money is the one designated as M1 in the Federal Reserve’s money stock statistics. Broader concepts of money (M2 and M3) include M1 as well as certain other financial assets (such as savings and time deposits at depository institutions and shares in money market mutual funds) which are relatively liquid but believed to represent principally investments to their holders rather than media of exchange. While funds can be shifted fairly easily between transaction balances and these other liquid assets, the money-creation process takes place principally through transaction accounts. In the remainder of this booklet, «money» means M1.

The distribution between the currency and deposit components of money depends largely on the preferences of the public. When a depositor cashes a check or makes a cash withdrawal through an automatic teller machine, he or she reduces the amount of deposits and increases the amount of currency held by the public. Conversely, when people have more currency than is needed, some is returned to banks in exchange for deposits.

What Makes Money Valuable? [ edit ]

In the United States neither paper currency nor deposits have value as commodities. Intrinsically, a dollar bill is just a piece of paper, deposits merely book entries. Coins do have some intrinsic value as metal, but generally far less than their face value.

What, then, makes these instruments — checks, paper money, and coins — acceptable at face value in payment of all debts and for other monetary uses? Mainly, it is the confidence people have that they will be able to exchange such money for other financial assets and for real goods and services whenever they choose to do so.

Money, like anything else, derives its value from its scarcity in relation to its usefulness. Commodities or services are more or less valuable because there are more or less of them relative to the amounts people want. Money’s usefulness is its unique ability to command other goods and services and to permit a holder to be constantly ready to do so. How much money is demanded depends on several factors, such as the total volume of transactions in the economy at any given time, the payments habits of the society, the amount of money that individuals and businesses want to keep on hand to take care of unexpected transactions, and the forgone earnings of holding financial assets in the form of money rather than some other asset.

Control of the quantity of money is essential if its value is to be kept stable. Money’s real value can be measured only in terms of what it will buy. Therefore, its value varies inversely with the general level of prices. Assuming a constant rate of use, if the volume of money grows more rapidly than the rate at which the output of real goods and services increases, prices will rise. This will happen because there will be more money than there will be goods and services to spend it on at prevailing prices. But if, on the other hand, growth in the supply of money does not keep pace with the economy’s current production, then prices will fall, the nations’s labor force, factories, and other production facilities will not be fully employed, or both.

Just how large the stock of money needs to be in order to handle the transactions of the economy without exerting undue influence on the price level depends on how intensively money is being used. Every transaction deposit balance and every dollar bill is part of somebody’s spendable funds at any given time, ready to move to other owners as transactions take place. Some holders spend money quickly after they get it, making these funds available for other uses. Others, however, hold money for longer periods. Obviously, when some money remains idle, a larger total is needed to accomplish any given volume of transactions.

Who Creates Money? [ edit ]

Changes in the quantity of money may originate with actions of the Federal Reserve System (the central bank), depository institutions (principally commercial banks), or the public. The major control, however, rests with the central bank.

The actual process of money creation takes place primarily in banks. 1 As noted earlier, checkable liabilities of banks are money. These liabilities are customers’ accounts. They increase when customers deposit currency and checks and when the proceeds of loans made by the banks are credited to borrowers’ accounts.

In the absence of legal reserve requirements, banks can build up deposits by increasing loans and investments so long as they keep enough currency on hand to redeem whatever amounts the holders of deposits want to convert into currency. This unique attribute of the banking business was discovered many centuries ago.

It started with goldsmiths. As early bankers, they initially provided safekeeping services, making a profit from vault storage fees for gold and coins deposited with them. People would redeem their «deposit receipts» whenever they needed gold or coins to purchase something, and physically take the gold or coins to the seller who, in turn, would deposit them for safekeeping, often with the same banker. Everyone soon found that it was a lot easier simply to use the deposit receipts directly as a means of payment. These receipts, which became known as notes, were acceptable as money since whoever held them could go to the banker and exchange them for metallic money.

Then, bankers discovered that they could make loans merely by giving their promises to pay, or bank notes, to borrowers. In this way, banks began to create money. More notes could be issued than the gold and coin on hand because only a portion of the notes outstanding would be presented for payment at any one time. Enough metallic money had to be kept on hand, of course, to redeem whatever volume of notes was presented for payment.

Transaction deposits are the modern counterpart of bank notes. It was a small step from printing notes to making book entries crediting deposits of borrowers, which the borrowers in turn could «spend» by writing checks, thereby «printing» their own money.

What Limits the Amount of Money Banks Can Create? [ edit ]

If deposit money can be created so easily, what is to prevent banks from making too much — more than sufficient to keep the nation’s productive resources fully employed without price inflation? Like its predecessor, the modern bank must keep available, to make payment on demand, a considerable amount of currency and funds on deposit with the central bank. The bank must be prepared to convert deposit money into currency for those depositors who request currency. It must make remittance on checks written by depositors and presented for payment by other banks (settle adverse clearings). Finally, it must maintain legally required reserves, in the form of vault cash and/or balances at its Federal Reserve Bank, equal to a prescribed percentage of its deposits.

The public’s demand for currency varies greatly, but generally follows a seasonal pattern that is quite predictable. The effects on bank funds of these variations in the amount of currency held by the public usually are offset by the central bank, which replaces the reserves absorbed by currency withdrawals from banks. (Just how this is done will be explained later.) For all banks taken together, there is no net drain of funds through clearings. A check drawn on one bank normally will be deposited to the credit of another account, if not in the same bank, then in some other bank.

What Are Bank Reserves? [ edit ]

Currency held in bank vaults may be counted as legal reserves as well as deposits (reserve balances) at the Federal Reserve Banks. Both are equally acceptable in satisfaction of reserve requirements. A bank can always obtain reserve balances by sending currency to its Reserve Bank and can obtain currency by drawing on its reserve balance. Because either can be used to support a much larger volume of deposit liabilities of banks, currency in circulation and reserve balances together are often referred to as «high-powered money» or the «monetary base.» Reserve balances and vault cash in banks, however, are not counted as part of the money stock held by the public.

For individual banks, reserve accounts also serve as working balances. 2 Banks may increase the balances in their reserve accounts by depositing checks and proceeds from electronic funds transfers as well as currency. Or they may draw down these balances by writing checks on them or by authorizing a debit to them in payment for currency, customers’ checks, or other funds transfers.

Although reserve accounts are used as working balances, each bank must maintain, on the average for the relevant reserve maintenance period, reserve balances at their Reserve Bank and vault cash which together are equal to its required reserves, as determined by the amount of its deposits in the reserve computation period.

Where Do Bank Reserves Come From? [ edit ]

Increases or decreases in bank reserves can result from a number of factors discussed later in this booklet. From the standpoint of money creation, however, the essential point is that the reserves of banks are, for the most part, liabilities of the Federal Reserve Banks, and net changes in them are largely determined by actions of the Federal Reserve System. Thus, the Federal Reserve, through its ability to vary both the total volume of reserves and the required ratio of reserves to deposit liabilities, influences banks’ decisions with respect to their assets and deposits. One of the major responsibilities of the Federal Reserve System is to provide the total amount of reserves consistent with the monetary needs of the economy at reasonably stable prices. Such actions take into consideration, of course, any changes in the pace at which money is being used and changes in the public’s demand for cash balances.

The reader should be mindful that deposits and reserves tend to expand simultaneously and that the Federal Reserve’s control often is exerted through the market place as individual banks find it either cheaper or more expensive to obtain their required reserves, depending on the willingness of the Fed to support the current rate of credit and deposit expansion.

While an individual bank can obtain reserves by bidding them away from other banks, this cannot be done by the banking system as a whole. Except for reserves borrowed temporarily from the Federal Reserve’s discount window, as is shown later, the supply of reserves in the banking system is controlled by the Federal Reserve.

Moreover, a given increase in bank reserves is not necessarily accompanied by an expansion in money equal to the theoretical potential based on the required ratio of reserves to deposits. What happens to the quantity of money will vary, depending upon the reactions of the banks and the public. A number of slippages may occur. What amount of reserves will be drained into the public’s currency holdings? To what extent will the increase in total reserves remain unused as excess reserves? How much will be absorbed by deposits or other liabilities not defined as money but against which banks might also have to hold reserves? How sensitive are the banks to policy actions of the central bank? The significance of these questions will be discussed later in this booklet. The answers indicate why changes in the money supply may be different than expected or may respond to policy action only after considerable time has elapsed.

In the succeeding pages, the effects of various transactions on the quantity of money are described and illustrated. The basic working tool is the «T» account, which provides a simple means of tracing, step by step, the effects of these transactions on both the asset and liability sides of bank balance sheets. Changes in asset items are entered on the left half of the «T» and changes in liabilities on the right half. For any one transaction, of course, there must be at least two entries in order to maintain the equality of assets and liabilities.