MONEY

AND
MONETARY
POLICIES
MONEY
- as a medium of exchange

MONETARY POLICY
– is a process of a
government, central
bank, monetary authority
of a country.
 A. FUNCTION OF MONEY
AND MONEY SUPPLY
• Function of Money
-It began to assume a significant
role in the advent of the market
economy marked by specialization,
interdependence and trade.
DESIRE PRODUCT FLOW

1A 3C

2B
 PRODUCT & MONEY
FLOW
Product
flow

A1 Money flow 3C

w
flo
M

ey
on

on
ey

M
flo

Product
w

flow
2B Product
flow
 MONEY SUPPLY
Consist of the following:
- Coins and bills in circulation
- Demand deposits in banks
- Quasi money
savings deposits
time deposits
-Deposit substitutes
 MONEY VELOCITY &
INCOME
• The velocity of money (also called
velocity of circulation) is the average
frequency with which a unit of money is
spent in a specific period of time. Velocity
associates the amount of economic activity
associated with a given money supply.
 TOTAL MONEY SUPPLY AND
QUASI-MONEY DEPOSIT: 2001
= Money Supply = Quasi-Money Deposits
1200

1000

800

600

400

200

0
april

sept

nov
may
mar

jun
feb
jan

july

aug

oct

dec
Y = PQ (Economic income or income derived
from production)

MV = PQ

where:
M = Money supply
V = Velocity
Y = Nominal money income
P = Price
Q = Volume of goods and services
 B. BANKS & MONEY
SUPPLY
The Fractional Reserve System (FRS)
- enables commercial banks to lend more
than their reserves.

- Under FRS, banks are required to hold only

a fraction (typically 12 percent) of the depositors'
funds as cash reserves. The remaining 88 percent
of deposited funds can be loaned out to create
new deposits which in turn create new loans.
 Deposit Liability Creation
Asset Liabilities

P1,000,000 P100,000
80,000 80,000
60,000 60,000
: :
n n
P500,000 P500,000
 L = mR m=L
R
• Since: r = R <1
L
• Therefore: m = 1
r
Where:
m = Money multiplier
R = Reverses
L = Deposit liabilities
r = Ratio of reserve to deposit liabilities or
fractional cash demand ratio
R = P100 B
r = .20 (or 20%)

m = 1 = 1 = 5 (multiplier)
r .20

Money created = Reverses x m

= P100 B x 5
= P500 B
 Monetary Policy
In particular, monetary policy refers to efforts to fight
inflation or otherwise control or stimulate the economy by
controlling the availability of spending money to
companies and consumers.

The actions of a central bank, currency board or other

regulatory committee that determine the size and rate of
growth of the money supply, which in turn affects interest
rates.
 Three Main Tools of
Monetary Policy

•Reserve Requirements
•Discount Rate
•Open Market Operations - OMO
 Reserve Requirements

What Does Reserve Requirements Mean?

*Requirements regarding the amount of funds that

banks must hold in reserve against deposits made by
their customers. This money must be in the bank's
vaults or at the closest Federal Reserve bank. Also
known as "required reserves".
 Discount Rate
What Does Discount Rate Mean?

1. The interest rate that an eligible depository

institution is charged to borrow short-term
funds directly from a Federal Reserve Bank.

2. The interest rate used in determining the

present value of future cash flows.
Open Market Operations - OMO

What Does Open Market Operations - OMO

Mean?

*The buying and selling of government securities in

the open market in order to expand or contract the
amount of money in the banking system.