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BUS 353. Part IV: Money and Markets. A. The Economy and the Business Cycle. The Economy – The interaction of people producing, buying, and selling goods and services The Business Cycle Boom – the peak of the business cycle, with high capacity utilization and low unemployment

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bus 353

BUS 353

Part IV: Money and Markets

a the economy and the business cycle
A. The Economy and the Business Cycle
  • The Economy – The interaction of people producing, buying, and selling goods and services
  • The Business Cycle
    • Boom – the peak of the business cycle, with high capacity utilization and low unemployment
    • Recession (Contraction) – a shrinking economy, indicated by rising unemployment and falling output
a the economy and the business cycle1
A. The Economy and the Business Cycle
    • Recovery – the economy is stable following a contraction, unemployment is stable to falling slightly
    • Expansion – a growing economy, indicated by increasing employment and output (Gross Domestic Product, or GDP)
  • Investing and the Business Cycle
    • It is nearly impossible to pick exact market tops and bottoms
    • The best protection against the business cycle is a diversified portfolio
    • The best environment for investors is slow, steady growth
b tracking the business cycle with government data
B. Tracking the Business Cycle With Government Data
  • Jobs Data – Monthly payroll information released on the first Friday of every month – includes the number of jobs created, unemployment rate, wages, hours worked per week, and weekly unemployment claims (http://www.bls.gov/ces/)
  • Inflation Measures – High inflation curbs economic growth and erodes the value of fixed income investments (http://www.bls.gov/bls/inflation.htm)
    • Core – excludes food and energy
    • Measures include CPI, PPI, etc.
b tracking the business cycle with government data1
B. Tracking the Business Cycle With Government Data
  • Sales – Measure economic strength through consumer spending (http://www.census.gov/epcd/econ/www/indijun.htm)
  • Gross Domestic Product (GDP) – A measure of economic growth (economic output) – generally, 3% or more annually is regarded as robust economic growth (http://www.bea.gov/)
c the federal reserve
C. The Federal Reserve
  • Created as the United States Central Bank, similar to those in other countries (Bank of England in the U.K., European Central Bank for the Eurozone, Bank of Japan, etc.) (http://www.federalreserve.gov/)
    • Sets interest rates
    • Issues currency
    • Manages the overall level of money in the economy
    • Oversees the national banking system
c the federal reserve1
C. The Federal Reserve
  • The Federal Reserve’s primary tool in economic regulation is setting short term interest rates
    • Fed Funds Rate – the interest rate banks charge each other for overnight loans
    • Discount Rate – the amount that the Federal Reserve charges member banks for overnight loans (extended so that banks can meet required cash reserves)

(http://www.federalreserve.gov/releases/h15/data.htm)

c the federal reserve2
C. The Federal Reserve
  • The Fed raises interest rates to slow the economy, and lowers interest rates to spur economic growth
  • Specific roles of the Federal Reserve
    • Policymaker – buys and sells government securities to control the amount of money in circulation
    • Banker – maintains bank accounts for the U.S. government and government agencies
c the federal reserve3
C. The Federal Reserve
    • Lender – makes loans to banks
    • Regulator – interprets laws governing banks, monitors compliance with banking rules
    • Controller – replaces worn and damaged currency
    • Guardian – watches over gold stored by foreign governments as a reserve for currency exchange
    • Administrator – national check clearinghouse
  • Policies are set by the Federal Reserve Chairman and by meetings of the Open Market Committee (http://www.federalreserve.gov/aboutthefed/default.htm)
d the money supply
D. The Money Supply
  • Money Supply Policies
    • Increasing the money supply increases liquidity, providing more money for loans and fueling economic expansion but increasing inflation risk
    • Decreasing the money supply decreases liquidity, increasing interest rates, slowing economic growth, and damping inflation
d the money supply1
D. The Money Supply
  • The money supply is increased when the New York Fed purchases government securities from banks and brokerage houses, using money that hasn’t existed before
    • The new money increases that firm’s reserves
    • The resulting money can then be re-lent
    • Example – 10% reserve
  • Decreasing the money supply decreases liquidity, increasing interest rates, slowing economic growth, and damping inflation
    • The money supply is decreased when the New York Fed sells government securities, reducing the amount of money in circulation
    • The contraction spreads through resulting bank transactions
d the money supply2
D. The Money Supply
  • Money Supply Gauges
    • M1 = Funds readily available for spending – cash and checking accounts
    • M2 = M1 plus all private deposits
    • M3 = M2 plus short term financial assets

(http://www.federalreserve.gov/releases/h6/Current/)

e the banking system
E. The Banking System
  • Types of Banks
    • Commercial Banks – accept deposits and provide loans to businesses and individuals
    • Savings Banks – generally provide mortgage loans and obtain deposits from individuals
    • Credit Unions – pool depositors’ money to make loans to other members
    • Investment Banks – underwrite stock and bond offerings, advise on mergers and acquisitions; subject to only minimal regulation
e the banking system1
E. The Banking System
  • Types of Deposits
    • Transaction deposits – deposits against which checks can be written (checking accounts)
    • Demand deposits – accounts from which money can be withdrawn at any time (savings accounts)
    • Time deposits – provide interest payments for a fixed term (certificates of deposit)
f the banking system
F. The Banking System
  • Government Regulation
    • Federal Reserve – regulates how much cash (reserves) banks must maintain, and serves as the primary regulator for federally chartered banks
    • Office of the Federal Comptroller of the Currency -- charters, regulates, and supervises the activities of national banks, international branches of U.S. banks, and U.S. branches of non-U.S. banks – oversees lending and investments by banks
f the banking system1
F. The Banking System
  • Federal Deposit Insurance Corporation – insures bank deposits to $250,000 per individual per bank
  • State Banking Regulators – regulate lending and investment practices of state chartered banks
g calculating rates of return
G. Calculating Rates of Return
  • Basic Formula:

Gain or Loss = (Sale Price + Dividends) – Purchase Price

(Gain or Loss) + Dividends

Percentage = ------------------------------------

Return Initial Cost

g calculating rates of return1
G. Calculating Rates of Return

Future Value 1/n

Compound = ------------------ -1

Annual Return Present Value

Where n = number of years (term)

Gain or loss must include dividend or interest payments (or interest on borrowed funds) plus capital gains (or capital losses)