Notes
Money
- Money is a medium of exchange, a unit of account and a store of value. It solves barter's need for a double coincidence of wants.
- Good money is durable, portable, divisible, uniform, limited in supply and acceptable.
- Commodity money has its own value; representative money can be exchanged for something of value; fiat money (today's dollar) has value by government decree and public trust.
- M1 is the most liquid money (currency and checking deposits); M2 adds near money such as small CDs.
Banking
- Key history: First Bank (1791), Second Bank and Jackson's veto (1832), National Banking Acts (1863), Federal Reserve Act (1913), FDIC (1933), Dodd-Frank (2010).
- Banks are financial intermediaries. Under fractional reserve banking they keep some deposits as reserves and lend the rest, earning profit from the spread.
Interest
- Simple interest: $I = Prt$. Compound interest (yearly): $A = P(1 + r)^t$. Compounding earns interest on interest.
Financial markets
- Stocks are ownership; they pay dividends and may earn capital gains. Bonds are loans that pay interest and return face value at maturity. Bond prices move opposite to interest rates.
- Higher potential return usually means higher risk. Diversification lowers risk.
Topics in this unit
Each topic has its own short notes and practice.
Practice
Holding money to spend later uses its ability to keep value over time.
$1{,}000 - 0.15 \times 1{,}000 = 850$.
$I = 3{,}000 \times 0.06 \times 2 = 360$. ($3,360 is the total repaid, not the interest.)
Buyers will pay less for an older bond paying a lower rate than new bonds.
With deposits insured by the FDIC, depositors had less reason to rush to withdraw cash.
Stock in a young company can rise a lot or lose most of its value.
Free response
Write your answer first, then open the scoring guide.
Free-response question
Deshawn has $4,000 to save for 4 years and is comparing two accounts that each pay $5\%$ per year.
(a) Account A pays simple interest. Calculate the interest earned and the final balance.
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$I = Prt = 4{,}000 \times 0.05 \times 4 = 800$. The interest is $800, and the final balance is $4,800.
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(b) Account B pays interest compounded once a year. Calculate the final balance and explain why it is higher than Account A's.
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$A = 4{,}000(1.05)^4 = 4{,}000 \times 1.21550625 \approx 4{,}862.03$. The balance is about $4,862.03, which is $62.03 more than Account A. It is higher because each year's interest is added to the balance and earns interest in later years.
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(c) Deshawn's aunt suggests he instead put the money in a fund that owns stocks of 400 different companies. Explain ONE possible benefit and ONE risk of this choice compared with a bank account.
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Benefit: over long periods, stocks have usually earned higher average returns than savings accounts, so the money could grow more. Owning 400 companies also diversifies the investment, lowering the risk that one company's failure hurts him badly. Risk: stock prices can fall, so the fund's value could drop below $4,000, and unlike an insured bank deposit, the money is not protected by the FDIC.
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