Key Concepts

The direct exchange of one good or service for another without the mediation of money. It works only when there is a double coincidence of wants, and the search costs of finding a suitable trading partner rise sharply as the number of traders increases, which …

The condition a barter exchange requires: each of the two parties must possess exactly what the other wants and want exactly what the other has. Because such a match is improbable, an intermediate good acceptable to both parties — money — …

The commonly accepted medium of exchange — an intermediate good that everyone is willing to accept, so that people can sell their produce for money and use that money to buy what they need. Besides facilitating exchange, money also serves …

The first and foremost function of money: being universally acceptable in payment, money lets people trade without needing a double coincidence of wants, removing the high search costs that make ba …

The function of money by which the value of all goods and services can be expressed in a common monetary measure. Because prices are quoted in money, relative prices are easy to compute — if a pen costs Rs 10 and a …

The function of money by which wealth can be held in monetary form for future use. Money is non-perishable, cheap to store and universally acceptable, though it performs this function well only if its purchasing power is reasonably stable. Assets such as gold, land or bonds can …

Papers bearing a promise to pay a future stream of monetary returns over a period of time, issued by governments or firms to borrow from the public and tradable in the market. In money-demand theory all non-money assets are grouped together and called 'bonds'; their price is …

The return earned by lending money or holding interest-bearing assets, and equivalently the opportunity cost or 'price' of holding money instead of bonds. Bond prices move inversely to it, and the speculativ …

A situation in which the market rate of interest is so low that everyone expects it to rise (and bond prices to fall), so people hold every extra rupee as cash rather than buying bonds. The speculative demand for money becomes infinitely elastic, and injecting more money can …

Currency notes and coins whose value comes not from any intrinsic worth of the paper or metal but from the guarantee of the issuing authority. In India, every currency note carries the RBI Governor's promise to provide purchas …

Money that cannot legally be refused by any citizen in settlement of a transaction. Currency notes and coins are legal tender; cheques drawn on bank deposits are not, since they can be refused as a mode of payment, s …

The more liquid measures of money supply — M1 and M2 — which consist mainly of currency held by the public and demand deposits that can be used imm …

The less liquid measures of money supply — M3 and M4 — which add time deposits to narrow money. M3, also called aggregate monetary resources, is the most commonly used me …

The ratio of the currency the public chooses to hold to the deposits it keeps with banks. It reflects the public's preference for cash over deposits and is one of the factors that determine the size of the money multiplier. The chapter's simplified one-bank example assumes the publ …

The ratio of the reserves banks hold to the deposits they carry. Banks keep reserves to meet depositors' withdrawal demands; the higher this ratio, the less banks can lend and the smaller the money multiplier. In the chapter it is f …

The currency issued by the central bank — held either by the public or as reserves by commercial banks — also called reserve money or the monetary base. It is 'high powered' because it forms the base on which the banking system creates a …

The ratio of the total money supply created to the amount of high-powered money (reserves) that supports it. In the simplified model it equals the reciprocal of the reserve ratio; with a reserve ratio of 20 per cent the multiplier is 5, so Rs …

The central bank's function of standing ready to lend to commercial banks whenever they need funds to expand credit or meet a shortage. Because the RBI is always available to provide such funds, it …

The buying and selling of government bonds by the central bank in the open market to change the money supply. Buying bonds injects reserves and raises the money supply; selling bonds withdraws reserves and lowers it. Operations may be outright (permanen …

The rate of interest at which the RBI lends to commercial banks. Raising the bank rate makes such borrowing costlier, reduces banks' reserves and contracts the money supply; lowe …

The legally required percentage of its total deposits that a commercial bank must keep as cash reserves with the central bank. It is a binding limit on lending: a higher CRR leaves banks less to lend and reduces the money m …

The rate of interest at which the central bank lends to commercial banks against securities under a repurchase agreement — the bank sells securities to the RBI with a commitment to buy them back at a specified date and price. Repo operations have become …

The rate of interest at which the central bank borrows from commercial banks, absorbing liquidity — the RBI sells securities with an agreement to repurchase them later. A higher reverse repo rate encourages banks to park funds …