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The Money Market Are Credit Cards Or Debit Cards Money? Explain Your Answer. In money economics, credit cards and debit cards are referred to as plastic money and this point to the loose conclusion that the credit and debit cards are actually money.
However, this understanding can be extended to the country’s definition of money and the metric used by a country in the definition of money. In the United States for instance, there are three metrics of measuring money supply and these include M1, M2, and M3.
M1 includes all coins and notes available in the country. This is the narrowest definition of money supply. Secondly, there is the M2 which includes demand deposits which is money in current accounts and thirdly, there is M3 which includes the amounts of money in savings accounts.
The United States has in the recent past stopped publishing data on M3. Different countries may have different categorizations of money supply. However, demand deposits which are of interest in this case will always be included (Galí, 2015).
Demand deposits are the monies stored in bank and other accounts that can be withdrawn at any time with no prior notice. The withdrawals are enabled mainly by the debit cards and the credit cards. Debit cards allow the holder to spend monies that they deposited into their accounts while the credit cards allow the holders to borrow funds from the card issuer in order to withdraw as hard currencies or spend. Considering that the credit cards and debit cards are both under demand deposits, then it would be prudent to conclude that they are money. Credit cards may at times fall under a different category of money in some countries but this does not change the observation that they are money (Galí, 2015).
Open Market Purchase of Government Securities The statement ‘when the Fed makes an open market purchase of government securities,
the quantity of money will eventually decrease by a fraction of the initial change in the monetary base’ is incorrect.
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the quantity of money will eventually decrease by a fraction of the initial change in the monetary base’ is incorrect. This is because of the effect of the multiplier effect on money supply. This statement can be summarized into an equation as follows:
Change in Money Supply=Change in Monetary Base *Money Multiplier The equation can also be expressed as: Money Supply=Monetary Base*Money Multiplier Open market operations is the most common policy used by the Fed.
What the Fed does is that it alters the monetary base and thus changing the money supply by a multiple of that amount as shown in the equation above. Changes in the monetary base then interact with the money multiplier and with the changes in money supply the government is able to target the interest rates.
As the changes in interest rates take shape, the borrowing trends by businesses are influenced and the aggregate demand is influenced in the process and through this, he Fed is able to influence the growth of the GDP.
While the process of using open market operations appears a little complex as presented briefly in this paper, it helps in showing that when the fed makes an open market purchase of government securities, the quantity of money will decrease by a fraction of the initial change in monetary base multiplied by the money multiplier (Mahadeva & Sterne, 2012).
Monetary Policy Tools The Federal Reserve influences the money supply in three ways. These include the buying and selling of treasuries through open market operations, setting of the discount rate, and the establishment of reserve requirements. On many occasions, the Federal Reserve uses open market operations as the main tool of monetary policy. However, there are times when the combination of two or more of the tools becomes necessary. The most important note that the reader ought to make is that the policies tools are applied different when the focus is on the contraction interests as compared to expansionary interests (Gertler & Karadi, 2015). In the case of the question at hand, the monetary policy tools of interest ought to be expansionary policies.
In expansionary policies, the government buys treasury securities from market dealers. This increases the money supply and effectively lowers the interest rates. The lower interest rates encourage borrowing by businesses and through the multiplier effect, the funds lead to the growth of the aggregate demand and the gross domestic products.
At times the Federal Reserve combines the expansionary open market purchases with the setting of discount rates. The Fed sets lower discount rates to directly influence the interest rates offered to the borrowers.
The lower interest rates result in increased borrowing by businesses and the implications of this are that the aggregate demand increases and the GDP grows. Thirdly, the Federal Reserve may change the reserve requirements hence influencing the short-term level of interest rates.
Lower reserve requirements mean that more funds are available for lending to businesses and this leads to growth in the GDP. Notably, the Federal Reserve uses these tools depending on the desired levels of economic parameters with different tools being preferred under different economic conditions (Gertler & Karadi, 2015).
Recession During a recession, the problem is not that there is too little money. Rather, the concern is that there is too little spending. The little spending results in low aggregate demand followed by declining growth on the gross domestic product. The lower GDP sets in the multiplier effect which results in businesses cutting on production, workers, being laid off, and when this cycle repeats itself the recession sets in. This paragraph indicates and helps in explaining the case as it is for too little spending in the economy. Too little spending in the economy is ideally caused by high interest rates that encourage the consumers to save more and spend less. The high interest rates make it difficult for businesses to borrow and invest in production activities and through a series of events the recession takes shape (Bekaert, Hoerova & Duca, 2013).
If the problem was too little money, the case would be different. This is because there would be little to no savings. Low savings from the net savers mean that the net spenders have little access to credit and considering the net spenders are the businesses otherwise known as the net investors, the level of investment in production activities declines.
Declining production levels would mean that the supply of commodities is limited and that the prices of commodities increase as the demand exceeds supply. The implications would be seen in inflationary pressure which could also be from the cost of capital perspective considering that the cost of loans also increases (Bekaert, Hoerova & Duca, 2013).
Notably, there lacks a direct link between too little money in the economy and recessions which is why too little spending is considered to be the direct cause of recessions. Additionally, this also explains why dealing with recessions requires the stimulation of consumer spending by increasing the disposable incomes.
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