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Quentin Metsys, Moneychanger and his Wife, 1514 Economics 14

Lecture 18: Money

what is money?
why money?
desirable characteristics of money
monetary aggregates

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What is Money?

Why Money?

Money was created to reduce the costs of exchange.

Specialization in the production process increases output. But, while each individual may specialize as a producer, she still wants to consume a variety of goods and services. Some exchange system must be devised so that each individual can enjoy the fruits of the specialization of others.

Searches by potential barterers for some double coincidence of wants will be extremely time consuming in a large, highly specialized economy with millions of products and people. Barter was abandoned and a system of indirect exchange was adopted instead. Indirect exchange significantly reduces the time spent on any one transaction.

In spite of widely different tastes within a society, there will be a small number of commodities most everybody is will to accept for exchange purposes. Everyone will maintain an inventory of the generally accepted commodities and virtually all exchanges will be made with these commodities. We then have a medium of exchange and a store of value. Prices will be listed in terms of these generally accepted commodities, making them units of account. These generally accepted commodities take on the functions of money.

Desirable Characteristics of Money

Monetary Aggregates

Click here to view the Federal Reserve's most recent estimates of the monetary aggregates.

M1

M1 = currency + checking deposits

M2

M2 = M1 + small savings deposits

M3

M3 = M2 + large savings deposits
1794 U.S. silver dollar David A. Latzko
Business and Economics Division
Pennsylvania State University, York Campus
office: 13 Main Classroom Building
phone: (717) 771-4115
fax: (717) 771-4062
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web: www.yk.psu.edu/~dxl31 		406-400 B.C. 'Victory Decadrachm of Syracuse'