Chapter 20 – Money, Financial Institutions, and the Federal Reserve
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Nonbanks
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The Rise of the Nonbank
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What Attracts Customers to Online
Banking
1. This slide illustrates what attracts customers to
online banking.
2. Households increased their use of online banking
from approximately 8 million households to 51
million households in 2009.
fornia, Florida, and Texas. Combined, these states
Missouri, and Maryland.
According to ComScore, the adoption of online
banking is rising at a rate of 13% each year. And
in 2011, 76 million households will bank online
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Progress Assessment
1. The Federal Reserve emerged after the banking
crisis of 1907 and was organized originally to be
a lender of last resort.
2. After bank deregulation, the services offered by
banks and S&Ls are now similar. They both offer
many of the same services. Credit Unions are tax-
exempt member-owned cooperatives that operate
like banks.
3. Consumer finance companies offer short-term
loans to those who cannot meet the credit re-
quirements of regular banks.
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Protecting Depositors’ Money
The amount of depositors’ insurance was increased to
$250,000 to create confidence in the banking system.
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Technological Advancements
in Banking
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Smart Cards
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Making Transactions in
Other Countries
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Leading Institutions in
International Banking
Both the World Bank and the IMF were created to re-
build the world economy after World War II.
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New Issues Facing the World
Bank and the IMF
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Progress Assessment
1. After the Internet bubble of the late 1990s, the
Federal Reserve lowered interest rates creating a
situation in which mortgage rates were low thus
fueling a housing boom. Banks relaxed their un-
derwriting standards and created mortgage-
backed securities and sold them to organizations
throughout the world. The government did not
regulate these transactions well and banks col-
lapsed as housing values fell and individuals de-
faulted on their loans.
2. The role of the FDIC is to insure bank deposits if
a bank were to fail. Bank deposits are currently
used with a zero balance, it will result in over-
drafts.
Bank for Reconstruction and Development, is re-
sponsible for financing economic development.
IMF.
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lecture
links
“Money is power, freedom, a cushion, the root of all evil, the sum of all blessings.”
stores and gas stations. But reliance on stone money, called rai stones, continues.
The people of Yap have been using stone money ever since a Yapese warrior named Anagumang
first brought the huge stones over from limestone caverns on neighboring Palau, some 1,500 to 2,000
years ago. Inspired by the moon, he fashioned the stones into large circles. The residents of Palau required
Yapese to pay in beads, coconuts, and copra for the privilege of quarrying. Yap has no limestone, and it
Next in value are some stones cut on Palau in the 1870s by David Dean O’Keffe, a shipwrecked
American sailor who escaped from the island and returned later with a Chinese junk. O’Keffe, who
helped transport the boulders in return for Yapese help in processing dried coconut, ultimately ran the
island as a self-styled emperor. Finally, there are a few mechanically chiseled stone wheels brought in
without problems by German traders in the late 1800s and early 1900s. But the value of these is much
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Yapese lean the stone wheels against their houses or prop up rows of them in village “banks.”
Each has a hole in the center so it can be slipped onto a tree trunk and carried. It takes 20 people to lift
some wheels.
chandise. But stone money remains and important part of Yapese traditions. There are instances in Yap
where you cannot use U.S. money. One is the settling of disputes. If a Yapese wants to settle an argument,
he brings his adversary stone money as a token. The apology is accepted without question.
Stone money even figured in international diplomacy. Micronesia president Tosiho Nakayama
brought a stone disk when he visited the United States in 1984. Officials say Nakayama intended the
metals have raised the basic cost of a penny to 1.4 cents. Multiply that by 7 or 8 billion pennies made
each year, and it comes to a $20 million loss. This imbalance is a milestone for the Mint because coins
have historically cost less to produce than the face value.
Some people think this expense is ridiculous and are petitioning the government to retire the pen-
ny. However, Gallup polling has shown that two-thirds of Americans want to keep the penny coin.
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lecture link 20-3
EURO PORTRAITS
The euro is the currency of 15 European Union nations, but each country is able to customize one
• Netherlands: Shows Queen Beatrix, who succeeded her mother in 1980
• Portugal: Shows the royal seal used by Portugal’s first king in 1144
• Spain: Features King Juan Carlos, Franco’s successor
lecture link 20-4
DIRTY MONEY
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lecture link 20-5
CURRENCY FOR CONSUMERS WITH VISUAL IMPAIRMENTS?
The American Council of the Blind scored a victory in 2006 when a federal district judge ruled
that American currency violates the Federal Rehabilitation Act because denominations are not easily dis-
tinguishable by blind people. Since 1983 the advocacy group has been urging U.S. Treasury officials to
make paper money easier for individuals who are blind to use.
Blind people typically determine the denominations of paper money by using bill-reading ma-
chines or by asking sighted people a bill’s value and then folding the various denominations in different
ways. The November 2006 district court decision ruled that if blind people “cannot accurately identify
paper money without assistance” they are being illegally denied “meaningful access” to the currency, in
violation of the law.
Fixing the U.S. currency could be expensive. The costliest option—adopting different-sized bills
for different denominations—would require an initial investment of about $225 million for new presses
and plates, according to the U.S. Treasury. Other options suggested include microperforations in the bills
or raised intaglio printing. Advocates for people with visual impairments point out that the Treasury’s
budget of $4.2 billion over the past 10 years has incorporated major currency revisions—color-shifting
ink, microprinting, and plastic security threads—in 1996 and 2004.
Of the 180 nations using paper currency today, the United States is the only one currently taking
no steps to make denominations legible to people who are blind.iii
lecture link 20-6
MONEY FACTS
WHAT ARE PENNIES MADE OF?
Contrary to popular opinion, pennies are no longer made of pure copper. From 1793 to 1837 pen-
nies were indeed pure copper. In 1837, the Mint added 5% tin and zinc to create bronze pennies. In 1962,
the cent’s tin content was removed, leaving 95% copper and 5% zinc. To further reduce the cost of com-
ponent metals, the composition was changed to 97.5% zinc and 2.5% copper in 1982.
WHY DO SOME COINS HAVE GROOVES ON THE EDGES?
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WHY ARE CERTAIN PRESIDENTS CHOSEN FOR CERTAIN COINS?
The presidents who appear on the front side of circulating coins are all selected by Congress in
recognition of their service to the country. The Lincoln cent was issued in 1909 to commemorate the
100th anniversary of Abraham Lincoln’s birth. The image on the nickel is Thomas Jefferson. The portrait
was chosen in 1938 in a design competition among 390 artists. One year after Franklin Roosevelt’s death,
his portrait was added to the dime and released to the public on January 20, 1947, FDR’s birthday. The
portrait of George Washington on the quarter was selected to commemorate the 100th anniversary of his
birth. Following President John Kennedy’s assassination in 1963, the Treasury issued a new 50-cent
piece bearing his portrait in February 1964.
HOW MANY COINS ARE MINTED EACH YEAR?
The total number of coins minted in 2005 is given below:
• 50¢ 7,300,000
• $1 5,040,000
HOW MUCH GOLD IS STORED IN FORT KNOX?
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was 14.6%. A dollar at the beginning of the year would be worth less than 85 cents by the end of the year.
Prices increased rapidly, followed by wages. Because of the declining value of money, consumers rushed
out to buy products before prices increased. More money chasing a fixed amount of goods drove inflation
up still further.
During the 1970s, the Fed managed the economy with an eye on interest rates. If interest rates in-
By 1981, the prime interest rate peaked at 21.5%. The high interest rate dramatically affected all
businesses activity, but the housing market was hit especially hard. The difference between a mortgage at
8% and a mortgage at 14% amounted to hundreds of dollars a month in increased mortgage expense.
Realtors and homeowners scrambled to find creative financing options to move property. The high inter-
est rates also brought business expansion to a halt, throwing the economy into recession.
Toward the end of the Middle Ages, Europe was a dangerous place to live, especially if one had gold and
silver coins so attractive to bandits. Most villages had only one institution that could safely store precious
metal—the village goldsmith. The goldsmiths, makers and sellers of plate and jewelry, flourished in the
1500s after the monasteries were dissolved, increasing the available supplies of gold.
Many goldsmiths developed strong connections with the monarchy, and most began to take in
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Inevitably, the inconvenience of meeting and physically exchanging gold coins led villagers to
trade not coins, but rather the receipts for coins from the goldsmith. These receipts circulated in the area,
with all buyers and sellers aware that the paper could be traded at any time for the underlying precious
metal. Some enterprising goldsmith eventually noticed that the gold he had in storage rarely left the vault,
and one gold coin was like every other gold coin. From that point, it was a simple step to loan part of the
gold in storage to others, for a fee. In its earliest form, we have the first paper money and the first bank
loan with interest.
By 1677, there were 44 goldsmith bankers in London. Two of the oldest surviving banks, Coutts
& Co and Child & Co, which originated as goldsmith bankers, continue to operate as part of The Royal
Bank of Scotland Group today.
Incidentally, paper money was not developed first in Europe, but in China, probably during the
600s A.D. The Italian trader Marco Polo traveled to China in the 1200s and was amazed to see the Chi-
nese using paper money instead of coins.v
lecture link 20-9
RESPONSIBLE BANKING WITH CDFIS
A common complaint among small-business owners these days is that banks have been too reluc-
tant to lend since the financial meltdown. As a result, some companies seek assistance from local sources
like community development financial institutions (CDFIs). Originally founded by socially motivated
investors and faith-based groups, CDFIs provide loans and financial education to small businesses in im-
poverished areas. And ironically enough, most new capital for CDFIs comes from large commercial
banks, with over $1 billion in investment in 2010 coming from Citi, Goldman Sachs, and others.
So why fund CDFIs while remaining stingy lending through traditional banks? For one, CDFIs
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Some new loans issued by credit unions are almost identical to those issued by suspicious street
corner outlets. The NCUA’s rate hike allows credit unions to charge as much as 28% interest on small
loans that give borrowers at least one month to pay. Sky-high interest rates don’t tell the whole story,
though. Credit unions are also allowed to charge an application fee for each new loan, which subsequently
inflates the overall rate to astronomical proportions. For instance, a two-month $200 loan with a $20 ap-
plication fee translates into an annual interest rate of more than 100%. Lenders can charge even more if
they sell loans in states that need not operate inside the federal program. At one credit union in Utah, a
$12 fee attached to its five-day $100 “MyInstaCash” loan kicks the annual rate up to 876%.
It may seem strange that more than 500 federally insured credit unions would choose to offer
payday loans in these days of widespread financial mistrust. After all, who can consumers count on if not
nonprofit institutions? Unfortunately, many of the nation’s credit unions are tilting into the red, with 7%
in 2009.
However, in November 2009 PayPal did something that could change the industry. The company
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critical
thinking exercises
Name: ___________________________
Date: ___________________________
critical thinking exercise 20-1
BARTERING: BUYING A PAIR OF JEANS
As the text notes, bartering was used rather than money in early commerce. In fact, countries suf-
fering from hyperinflation have resorted to bartering in more recent years. Let’s see how cumbersome
bartering can become and how difficult it is to get your needs met in a barter economy.
Suppose you live in a barter economy and you need to buy pair of jeans. Listed below are six
people who live in your community. Each person has goods or services that he or she can trade to satisfy
a particular need. You must figure out how to barter so that you get that pair of jeans. Be sure to indicate
how much of each good or service is traded. Does everyone get his or her need met? Why? (This exercise
Chapter 20 – Money, Financial Institutions, and the Federal Reserve
notes on critical thinking exercise 20-1
Students must decide how much of each good or service (represented by the Xs below) are in-
volved in each transaction. Students will disagree on the worth of each good or service. This disagreement
1. Where is the U.S. stock of gold and silver bullion stored? What is the value of these assets?
2. Whose signature appears on U.S. currency?
3. What is the largest denomination bill issued today?