ECON 352 - Money and Banking (Gonzaga University) Ryan Herzog, Ph.D.

1. Introduction
Ryan W. Herzog, Ph.D.
Associate Professor of Economics
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2. Lecture Outline
• These notes will differ a bit from the textbook.
• Core principles of financial markets (from
Stephen Cecchetti)
– Overview of financial markets
• Monetary policy and the Federal Reserve
– The role of interest rates and money.
• Brief overview of the financial crisis.
• Introduction to FRED
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3. Goals
• Understand the interconnectedness of financial
markets.
• Come away with an understanding of how monetary
policy affects financial markets (and you).
• Learn something that will be useful in 5 years, 10 years,
30 years.
• What do you want to learn?
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4. Financial Markets
• Stock Market
• Bond Market
• Foreign Exchange Market
• Commodities Market (oil, wheat)
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5. Financial Intermediaries
• Size and history
– Too big to fail? Glass-Steagall or Gramm-Leach-Bliley?
• Regulation
– Shadow banking sectors, derivatives, and proprietary
trading
– Capital Requirements
• Asymmetric information
– Bailouts, FDIC, principal-agent problems
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6. Monetary Policy
• Structural of the Federal Reserve (and ECB)
• Responsibilities (price/output stability
• Independence/Transparency/Communication
(under attack)
• Current state of monetary policy (QE1, QE2,
QE3, Operation Twist)
– Future rate increases
– Normalization of the balance sheet
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7. Core Principles
• Five core principles outlined by Stephen
Cecchetti:
1. Time Has Value (yield curve)
2. Risk Requires Compensation (default premium)
3. Information is the Basis for Decisions
4. Markets Determine Prices and Allocate
Resources
5. Stability Improves Welfare
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8. Time has value
• Time affects the value of financial
instruments.
• Interest is paid to compensate the lenders for
the time the borrowers have their money.
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9. Risk and Compensation
• In a world of uncertainty, individuals will
accept risk only if they are compensated.
• In the financial world, compensation comes in
the form of explicit payments: the higher the
risk the bigger the payment.
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10. Information
• The more important the decision, the more
information we gather.
• Collection and processing of information is the
foundation of the financial system.
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11. Markets
• Markets are the core of the economic system.
• Markets channel resources and minimize the
cost of gathering information and making
transactions.
• The better developed the financial markets,
the faster the country will grow.
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12. Stability
• A stable economy reduces risk and improves
everyone's welfare.
• Financial instability in the autumn of 2008
triggered the worse global downturn since the
Great Depression.
• A stable economy grows faster than an unstable
one.
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