# Name: Shiza Nasim ID: 14466 Section: K

MACROECONOMICS ASSIGNMENT # 03

Question No.1: What is fiat money? What is commodity money?

FIAT Money: Money that has no intrinsic value is called fiat money. It is decreed to
be the legal tender by the government.

Commodity Money: Money that has some intrinsic value is called commodity
money. For example, gold and silver. QUESTION 2 (a): How is the quantity of money measured? Money Supply measures the quantity of money in an economy. It records the amount of money available in an economy in a specific period of time. As money is the stock of assets used for transactions, the quantity of money is the quantity of those assets. No single asset is used for all transactions. People can use various assets, such as cash in their wallets or deposits in their checking accounts, to make transactions, although some assets are more convenient than others. Currency is the first most obvious asset when talking about the quantity of money. The sum of outstanding paper money and coin, most day to day transactions use currency as the medium of exchange. Demand Deposits are the second type of asset used in transactions. They are the funds people hold in their checking accounts. If most sellers accept personal checks, assets in a checking account are almost as convenient as currency. In both cases, the assets are in the form ready to facilitate a transaction. Demand deposits are therefore added to currency when measuring a quantity of money. Funds in saving accounts can easily transfer into checking accounts. These assets are almost as convenient for transactions. Mutual funds allow investors to write cheques against their accounts, although restrictions sometimes apply. As these assets can easily be used for transactions, they should certainly be included as an asset when measuring the quantity of money.

representing 23.4% in the same period last year. 2 (b): What are the components of M1 and M2?   M1 = Currency in Circulation + Demand Deposits + Other Checkable Deposits + Traveler's Checks M2 = M1 + Savings Deposits + Small Time Deposits (CDs < \$100.3 billion) in the same period last year. as against 18. Time Deposits: Time deposits of scheduled banks increased by an annual average rate of 18.1% during the 1990s.9% in the 1980s. The outstanding stock of demand deposits was Rs 347. has direct bearing on the movement of prices in the economy. As on 31st March 2001.9%(Rs 54. In the first ninth month of current fiscal year. Demand deposit with Scheduled Banks: Scheduled banks demand deposits increased by an annual average of 13. Compared to its share of 25.7% of the M2 stock. currency in circulation constituted 26. During the 1980s. currency in circulation increased by 8. compared to 13.9% of M2.2 billion). demand deposit actually declined by 7.3% of money supply . as compared to growth at 10.5% as compared to an increase of 9.5% in 1990s.5% . which came down to 12.4 billion as on end March 2001.Question No. Time deposits recording a contraction of 0.6% during the 1990s. average annual increase in currency in circulation was 15.000) + Money Market Deposits + Other Stuff DESCRIPTION: (for year 2000-2001) Currency in Circulation: Currency in circulation.5%(Rs 30.4% in the first ninth month of 1990-2000 posted considerable recovery during the first ninth months of the current fiscal year as they .9% in the comparable period of last year. being the most liquid form of money supply. On the corresponding date of last year demand deposit constituted 28. During the first ninth month of fiscal year. Part of the decline in the demand deposits can be attributed to the encouraging build-up in the time deposits and resident foreign currency deposits during the current fiscal year up to march 2001.7% in the 1980s.

Similarly.grew by 7.1 % during the same period in 2010-11. The decline in broad money M2 came from the decline in broad money M2 came from the decline in both currency in circulation and deposit money. as compared to an increase of 11. Money x Velocity= Price x Transaction .47% during the same period last year.255. 402.3 billion as compared to Rs. increasing from 39 on the corresponding date last year.204. Residents Foreign Currency Deposits: As a result of freezing RFCDs in May 1998. Hence the decline in currency in circulation is same period last year.5 billion as against Rs 403.4% in 2011-12 as against 24.1%. Similarly.09% During July-May 2012. in flow terms.0 billion as compared to Rs 22. Offset by inc in demand and time deposits. DESCRIPTION: (for year 2011-2012) Currency in Circulation: During July-May 2012 Currency in circulation. 2001.1% as on march 31. QUESTION 3: Write the quantity equation and explain it? TRANSACTION AND THE QUANTITY EQUATION: The link between transactions and money is expressed in the following equation which is called QUANTITY EQUATION. which continued in 1999-2000.5 billion in the broad money M2 grew by 9. demand ant time deposits stood at Rs. a large scale conversation into local currency has occurred. resident foreign currency deposits have inc to Rs 42. However. during the 1st ninth months of the current fiscal year. the currency in circulation as percent of money supply M2 has declined to 23. RFCDs displayed considerable recovery.5 billion during the same period last year. Deposits: During July-May 2012. stood at Rs.6 billion during the same period last year. Their share in money supply M2 increase to 40.

 Menu Costs. The left-hand side of the quantity equation tells us about the money used to make the transactions where: M = Quantity of money. However. Ireland and Spain) they can't devalue. V = Transactions velocity of money (which measures the rate at which money circulates in the economy) This type of equation is useful because its shows that if one of the variables changes. when inflation is high firms may be less willing to invest because they are uncertain about future profits and costs. if a country is in the Euro (e. However this may be offset by a decline in the exchange rate. This uncertainty and confusion can lead to lower rates of economic growth over the long term. one or more of the others must also change to maintain the equality. Question No. This is the cost of changing price lists. leading to a fall in exports. Also. PT = The number of dollars exchanged in a year. Therefore.  Confusion and Uncertainty: When inflation is high people are uncertain what to spend their money on. high inflation can be very damaging as it leads to a decline in competitiveness. But.g. modern technology has helped to reduce this cost. prices need changing frequently which incurs a cost. When inflation is high. .MxV = PxT The right-hand side of the quantity equation tells us about transactions where: T = Total number of transactions during some period of time P = Price of typical transactions_ the number of dollar exchanged. 4: List all the costs of inflation you could think of and rank them according to how important you think they are?  International competitiveness: A relatively higher inflation rate will make British goods less competitive. Greece.

low inflationary.  Boom and Bust Economic Cycles. This is because with rising wages more people will slip into the top income tax brackets. However it does depends on the real rate of interest. economic growth is highly desirable. To save on losing interest in a bank people will hold less cash and make more trips to the bank. This reduction in Aggregate Demand will lead to a decline in economic growth and unemployment.  Cost of Reducing Inflation: High inflation is deemed unacceptable therefore governments feel it is best to reduce it. High inflationary growth is unsustainable and is usually followed by a recession.  Fiscal Drag. e. Shoe leather costs.g. especially if the saving is not index linked. Inflation will typically make borrowers better off and lenders worse off.  Income redistribution. in the UK. This will involve higher interest rates to reduce spending and investment. E. By keeping inflation low it enables a long period of economic growth. The amount of tax we pay will increase if there is inflation. low inflation helped economic growth to be more stable in the period 1992-2007. . if a saver gets a higher rate of interest than the inflation rate he will not lose out. Inflation reduces the value of savings.g. Sustainable.