Money and Finance: Crash Course Economics #11


Complete Video Transcript

0:01Adriene: Welcome to Crash Course: Economics. I’m Adriene Hill.
0:03Jacob: And I’m Jacob Clifford. And today we’re going to talk about money and finance.
0:06Adriene: I know we said in the first episode that economics isn’t really about money…
0:10Jacob: Economics isn’t about getting rich quick, but it all boils down to trading things you have for the things you want.
0:16Adriene: Like, I’ve got this giant zucchini, but I’d love that piece of pizza. Want to trade?
0:21Jacob: No way!
0:22[Theme Music]
0:31Imagine you live in a world without money, and you’re a dentist that wants to go buy a car.
0:36First you need to find a bunch of auto workers who need dental work.
0:38And if these workers don’t want dental services and prefer being paid in something else like
0:42flat-screen TV’s, then you have to find TV manufacturers that have toothaches.
0:46Try posting that on Craigslist…
0:47This is called the “barter system”, and it takes a lot of time and energy.
0:50Of course, many people still barter for stuff, but for most transactions, we use money.
0:54Which is a way more efficient way to do business.
0:56The people who really need dental care will pay you with money, which you can now use to buy a car.
1:01Economists point out that money serves three main purposes.
1:04First, it acts as a “medium of exchange”. It’s generally accepted for payment for goods and services.
1:09Now, that medium of exchange means we’re not stuck in the barter system.
1:12Next, money can be used as a “store of value”.
1:14The reason why a dentist doesn’t normally accept fruit or baked goods is because you can’t save those things up to go buy things like cars.
1:19Plus, bananas go bad pretty quickly in a safe deposit box.
1:22Money also serves as a “unit of account”.
1:24We don’t measure the value of cars in bananas, muffins, or root canals.
1:28Instead, we use money because it’s a standardized metric that allows us to measure the relative value of things.
1:33Adriene: Most people assume that money is just cash and coins, issued and endorsed by a government.
1:38Coins have been used for thousands of years, and they’re a great example of money,
1:42but technically money is anything that’s used as a medium of exchange.
1:46For example, cigarettes were used as money in prisons until smoking bans were put in place.
1:50Nowadays, prisoners use postage stamps and even small packages of mackerel as currency.
1:56Animals like cattle and sheep, also sacks of grain, all these have been used as money.
2:01Some societies even used feathers or shells.
2:04The indigenous people on Yap Island in the Pacific Ocean used money called “rai stones”.
2:10These were large doughnut-shaped disks made out of limestone.
2:13The largest ones are around ten feet wide, and weigh four tons.
2:17The point is what economists consider money is anything that’s accepted as a medium of exchange.
2:23And that’s changed a lot over time.
2:25Today, cash and coins are often used as money since they’re easy to carry around, physically durable, and hard to counterfeit.
2:32But a lot of money today doesn’t end up in anyone’s pocket, or wallet, or duffel bags, or even wheelbarrows.
2:39It moves around electronically.
2:41Increasingly, people get paid in the form of checks or direct deposits into their bank.
2:45A lot of our money isn’t physical. It’s digital. It exists on some bank’s computer.
2:50And as long as that computer is secure, and the zombie apocalypse doesn’t permanently knock out the power,
2:55and your nation’s monetary system is functioning as it should, those electronic dollars do all the things they’re supposed to do.
3:03Another form of digital money that you often hear about is Bitcoin. Bitcoin is a virtual currency that is not issued or regulated by a specific country.
3:10But since some people accept it as payment, many economists consider it money.
3:15Unlike other electronic currency, Bitcoin doesn’t involve a bank, so people can, in theory, buy things more anonymously.
3:22This appeals to people who don’t trust central banks, and also people who want to buy illegal stuff online.
3:28That illegal trade means law enforcement and regulators are also very interested in Bitcoin.
3:34Bitcoin isn’t only for internet drug deals though.
3:36There’s a lot of speculation in Bitcoin, meaning people buy up Bitcoins, hoping to turn a profit on them.
3:42This makes Bitcoin more of a speculative asset, and limits its use in buying and selling actual goods and services.
3:49Could Bitcoin or another virtual currency be how everyone pays for things in the future?
3:54Who knows! But if anyone wants to give me 10 Bitcoin for this zucchini, we’ve got a deal.
3:59Jacob: There’s kind of a glaring question here: what makes these pieces of paper so valuable?
4:03Well, in the past, each dollar issued by the U.S. government was redeemable for a specific amount of gold.
4:09That was called the “gold standard”, and it meant that the government couldn’t issue more money than it had in gold reserves.
4:14Back in the 1930’s, the U.S. decided to move off the gold standard and some people freaked out about not having something tangible to back our money.
4:21But it’s important to remember that money, whether it’s cash, or gold, or small pouches of mackerel, is all about confidence.
4:27The Nobel Prize winning economist Milton Friedman said, “The pieces of green paper have value because everyone thinks they have value.”
4:33With that in mind, a gold standard, or even a mackerel standard,
4:36might not make money more valuable or reliable.
4:39A lot of economists agree with this, which is why no country uses the gold standard.
4:42There are calls by some politicians to bring it back, but that’s probably never gonna happen. Sorry, Ron Paul.
4:47Adriene: Okay, I know we said economics is not about the stock market.
4:50But now it’s time to explain what it is, and why it’s important.
4:54The stock market is just one piece of something much bigger: the financial system.
4:59To understand the financial system, you need to picture two different groups.
5:03First, you have “lenders”. Sometimes these are corporations with a bunch of cash, but lenders can also be ordinary households, people like you and me.
5:11Us regular folks are gonna need money in the future to retire, or send our kids to college, or go on a vacation to Yap Island.
5:18So we need a way to turn the money we have now into more money in the future.
5:23The second group is “borrowers”. There are several different kinds of borrowers.
5:26First you have other households who want to borrow money to buy stuff like a car or a house.
5:31You also have businesses that have a great idea for a new product, but that have a problem.
5:36They need money to make the product, and they’ll have money when the finished products are sold.
5:41But for now, they need to borrow money to invest in capital – things like machinery, tools, and factories.
5:47And they’ll pay it back once they make some sales. Basically they need to buy stuff to produce other stuff.
5:53Third, you have governments who need to to borrow money because they’re spending more than they’re bringing in.
5:58So you have lenders who have money now and want to turn it into more money in the future.
6:02And you have borrowers who need money now and will repay it in the future.
6:07The financial system is a network of institutions, markets, and contracts that brings these
6:12two groups together. Lenders put money into the financial system, which loans it out to borrowers.
6:18These borrowers pay back those loans with interest, which makes it worth the lender’s time. Let’s go to the Thought Bubble.
6:25There are three ways this exchange takes place. The first is banks.
6:28A lender deposits money in a bank, and then the bank turns around and loans that money
6:32to a family who wants to buy a house or a business that wants to expand.
6:36As those borrowers pay the interest on their loans, the bank takes part of that money to cover their costs and passes the rest along to the depositor.
6:44The second way lenders an borrowers link up is through the “bond market”.
6:48A government or large corporation that needs to borrow money will sell bonds to lenders.
6:53A bond is basically an IOU in which the borrower agrees to pay regular interest payments and promises to repay all of the money back at a set date in the future.
7:02If that lender decides they’d rather have cash now, they’re free to sell that bond to another party.
7:08The third way lenders and borrowers link up is through – you guessed it – the stock market.
7:13Say Jacob and I want to expand our lemonade business, but we don’t have the money to do it.
7:17We could sell stock, which is basically slices of ownership in the company.
7:21Households get the stock, and we get the cash.
7:24If our company profits in the future, and we become lemonade moguls, we’ll share some of
7:29those profits with the shareholders, or the shareholders can sell the stock at a higher price.
7:34Either way, they make money if the company’s profitable. Thanks, Thought Bubble!
7:39So banks and bonds have something in common. They’re dealing in something called “debt”.
7:44If you get a loan from a bank, or if you’re a government that sells a bond, the amount you must repay is set.
7:50In almost all cases, you’re obligated to pay back the amount you borrowed with a set amount of interest.
7:56Stocks, on the other hand, are known as equity.
7:58If a company enjoys high profits, shareholders get more money.
8:02If a company goes bankrupt, shareholders may get nothing.
8:05In the news, you’ll hear about changes in the Dow Jones Industrial Average.
8:09But fluctuations in stock markets are not reliable indicators of how the economy’s doing.
8:15Often changes in the stock market are reactions to real, or just perceived,
8:19changes in economic fundamentals like consumer confidence, the unemployment rate, and GDP growth.
8:26Bonds and stocks also have something in common. They’re traded on markets for financial instruments.
8:31Bonds are debt instruments, and stocks are equity instruments, but they’re both pieces of paper that are traded on markets with many buyers and sellers.
8:40Banks, on the other hand, are financial institutions. With the help of the FDIC, they safeguard our money while making loans to individual households and businesses.
8:50Jacob: So why do we even need this complicated financial system? Why don’t households take their savings and lend them out directly?
8:55Well, if you want to loan out your life savings to your neighbor so he can launch his artisanal smart phone business, go for it!
9:01But that’s a pretty risky bet, so you’re more likely to use a financial system.
9:04Financial markets, with instruments like stocks and bonds, allow borrowers to crowd source the money they need to borrow.
9:09They raise their capital from lots of investors and spread the risk around. Banks do the same thing.
9:13They accumulate small deposits from thousands of people and use that to make loans.
9:17It’s like Kickstarter except better because you get money as opposed to an earnest thank you email.
9:21From the lender’s point of view, a financial system allows you to spread your savings over dozens or hundreds of different loans.
9:27A few companies might go bankrupt and a few people might pay back their car loans, but those losses will be offset by borrowers who do pay back their loans.
9:35You don’t have to put all your eggs in one basket.
9:36Adriene: So that’s money in the financial system. The thing to remember here is that this stuff is not just an abstraction or someone else’s concern.
9:43Almost all of us are lenders and borrowers at some point in our lives, and understanding lending and borrowing is a big deal.
9:51While it might seem like you’re borrowing from a faceless institution,
9:55you might be borrowing my money from that faceless institution, and I’m gonna need that back if I can’t get anyone to accept this zucchini as payment.
10:04Thanks for watching!
10:05Jacob: Crash Course Economics was made with the help of all these nice people who believe in some way that there’s value in those green pieces of paper.
10:12Your green piece of paper can help support Crash Course on Patreon. You can help keep Crash Course free for everyone, forever. And you get good rewards.
10:21Thanks for watching! DFTBA!

Love to share my knowledge and experiences with everyone by publishing informative articles on my site.