Chapter 1 Why Study Money Banking and Financial

Why Study Money, Banking, and Financial Markets • To examine how financial markets such as bond and stock markets work • To examine how banks, other financial institutions and financial regulation work • To examine the role of monetary policy in the economy 1 -2 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

Financial Markets • Markets in which funds are transferred from people who have an excess of available funds to people who have a shortage of funds 1 -3 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

The Bond Market and Interest Rates • A security (financial instrument) is a claim on the issuer’s future income or assets • A bond is a debt security that promises to make payments periodically for a specified period of time (that is, IOU) • An interest rate is the cost of borrowing or the price paid for the rental of funds 1 -4 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

FIGURE 1 Interest Rates on Selected Bonds, 1950– 2008 Sources: Federal Reserve Bulletin; www. federalreserve. gov/releases/H 15/data. htm. 1 -5 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

The Stock Market • Common stock represents a share of ownership in a corporation (IOBU) • A share of stock is a claim on the earnings and assets of the corporation • Common stock holders are residual claimants. 1 -6 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

FIGURE 2 Stock Prices as Measured by the Dow Jones Industrial Average, 1950– 2008 Source: Dow Jones Indexes: http: //finance. yahoo. com/? u. 1 -7 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

Financial Institutions and Banking • Financial Intermediaries: institutions that borrow funds from people who have saved and make loans to other people: – Banks: accept deposits and make loans – Other Financial Institutions: insurance companies, finance companies, pension funds, mutual funds and investment banks 1 -8 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

Financial Crises • Financial crises are major disruptions in financial markets that are characterized by sharp declines in asset prices and the failures of many financial and nonfinancial firms. • Severe financial crises typically spill over into the real economy. 1 -9 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.