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The Financial Sector and the Economy


Learning Objectives

AFTER READING THIS CHAPTER, YOU SHOULD BE ABLE TO:

  1. Explain why the financial sector is central to almost all macroeconomic debates.


  2. Demonstrate graphically how the long-term interest rate is determined.


  3. Explain what money is.


  4. Enumerate the three functions of money.


  5. State the alternative measures of money and their primary components.


  6. Explain how banks create money.


  7. Calculate both the simple money multiplier and the money multiplier.


  8. Explain why people hold money and how the short-term interest rate is determined in the money market.

Chapter Summary

The efficient use of markets requires a financial sector that facilitates trades. The modern financial sector is highly sophisticated. In the market for loanable funds, long-term interest rates are determined.

This chapter introduces the definition of money, the functions of money and the alternative measurements of money. This chapter also investigates how banks create money. The process of the creation of money relies on the existence of the money multiplier, which is introduced in this chapter. Changes in the money supply explain changes in short-term interest rates.

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