QUESTION 1

Money is defined as any circulating medium of exchange. Money allows people to obtain what they need. It being an economic unit that facilitates transactions. Money provides a service of reducing double coincidence of wants. Money is also referred to as currency. It is a liquid asset. Money functions generally on acceptance of the value it holds, within an economy and foreign exchange.

Most of the money circulating in a country’s economy is created by banks. This money is in form of bank deposits. Banks rarely makes paper money, instead they create electronic money deposit. Banks also create money through accounting, which they use to make loans. Every new loan a bank makes creates new money. If central bank of a country wants to increase the amount of money in circulation, they may opt to print it. The central bank may also opt to buy government’s fixed income securities in the market. This puts money in market place, hence in the public’s disposal. Central banks also lower the interest rates, which makes banks to offer low interest loans encouraging individuals and banks to borrow.

Central bank is an independent national authority that currency within a country or in a formal monetary union. The central bank acts as a lender of the last resort during a time of financial crisis. Central banks control the activities of the member institutions. These institutions are also independent from political interference.

The central bank has the following roles:

Regulating members: Central banks are responsible in ensuring that there is financial stability for the members by covering them from potential financial losses. Central banks also split large banks so that they are not too big to fail. The central banks also warns members of the risks that can affect the entire financial industry.

Provision of financial services: Central banks lend money to their members. Whenever a member is in financial difficulty, central banks lend money to the member in need ensuring survival.

Central banks also store currency in the foreign exchange reserves. This currency is used in exchange rates. In doing this central banks can control inflation.

Central bank also acts as a banker and adviser of the government. The central bank makes and receives payments on the behalf of the government. It also provides short-term loans to the government to assist in difficulties. It also manages public loans on behalf of the government. It also keeps banking accounts on its behalf.

The central bank is the custodian of all cash reserves. All the commercial reserves are advised to keep their cash with commercial bank. Members can use this amounts in times of need. This centralized cash reserves also act as a basis for provision of large more elastic credit structures.

Control of credit: as commercial banks create a lot of credit, which can result in inflation, Central banks control this credit. Since money and credit play an important role in determining the income levels, fluctuations happen in expansion and contraction of currency. This fluctuations cause credit.

Bank of issue: the central bank has the monopoly of note issue. It prints currency notes and issues them and they are declared legal tender in a country. The central bank has full control of the currency supply and keeps all the gold, silver or other securities against the bank notes issued.

QUESTION 2

The aggregate demand and aggregate supply model is applied when building a useful macroeconomic model. In order to determine total supply and total demand for economy and how they interact at macroeconomic level.

Aggregate Supply

Aggregate supply is the amount of goods and services produced in an economy in a given period.

Aggregate demand

Aggregate demand is a concept used to show the total demand for goods and services in an economy

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Macroeconomic problems include.

Unemployment

Inflation

Potential solution

Monetary policy refers to policies implemented by central bank that regulate the quantity of money and credit in the economy, while fiscal policy refers to the decisions made by the government about taxes and expenditure. These policies play a major role in solving macroeconomic problems like.

Both fiscal and monetary policies can be applied to revive an economy to full employment

Fiscal policy and monetary policy can be used to restore the economy if it is experiencing a severe recession. This can be solved by expansionary of the fiscal policy in order to increase aggregate demand. The central bank always play the role by engaging in expansionary of monetary

Fiscal and monetary policy can impact output, inflation, unemployment, and interest rates

For instance, let us assume a government has increased its spending. Hence, the expansionary of fiscal policy could lead to increase in aggregate demand hence leading to reduced unemployment and higher inflation

Monetary policy can be used to moderate the impact of fiscal policy on interest rate