Money Markets Issues

The money market refers to a section of the fixed-income industry including its institutions, practices, and conventions. The main aim of the money market is to streamline the progress of borrowing and lending of money in short-term instances. The money market is fundamentally different from the capital market in that the latter mostly deals with long and medium-term credit facilitation.

When referring to the money market, the definition of ‘money’ does not necessarily refer to hard currency or banknotes. The money in this case can also refer to various assets whose liquidity can be guaranteed over the short term. The money market is sometimes referred to as the discount market and it involves various forms of assets including bills of exchange, short-term government-issued securities, and bankers’ acceptances1.

This essay seeks to explore what are money markets (MMs) and how they operate in the context of the global economy. MM also acts as an extension of the fixed-income market. Furthermore, there is often confusion between the bond market and the MM. However, the main difference between the MM and the bond market has to do with the time that it takes both securities to mature. Most of the products that are offered under the MM often mature in less than a year.

All countries have MMs that are part of national and international monetary systems. The MMs are also characterized by players who deal with short-term credit facilities. The demand for MM products is similar to that of other products that are offered through organized economies. A person’s access to this market is also subject to various economic, political, and personal factors. For instance, the MM is subject to middlemen just like other various products of the global economy.

Consequently, “If the retailer is to provide reasonably adequate service to his customers, he must have active contacts with others who specialize in making or handling bulk quantities of whatever is his stock-in-trade”2. The complex nature of the MM necessitates the involvement of both financial and political players. The financial players are in charge of the products but the political elements formulate policies in regards to the MMs. The main purpose of this market is to create economic harmony amongst investors, financial institutions, and governments among others.

MMs feature in almost all types of modern economies including the ones that do not necessarily adhere to capitalism. Nevertheless, there are clear-cut differences between the MMs in capitalist countries and the operation of the one in socialist environments. For example, the leading MMs in the world are found in the most liberal economies such as Singapore, Hong Kong, New York, and Toronto3. MMs are common components of economies that respect the institutions of liberal markets.

In this scenario, the element of competitive market dynamics is a major driving force of MMs. Another major feature of the MM is that it relies on the existence of a balance between the providers of bulk cash and consumers of these funds. This disparity was the central concern when the famous economist Keynes advised President Roosevelt to rely on the Federal Reserve as an avenue for selling government bonds. Consequently, government bonds could be used to offset the shortage of capital that America was facing at the time. The effective distribution of funds to those who require it most is the hallmark of a good MM.

The movement of products in the MM from the supplier to the end-user is subject to various intermediaries. Consequently, this market is associated with a myriad of brokers whose main job is to facilitate movement. Nevertheless, the roles and activities of brokers vary from one country to another. In most countries, MM brokers are not conducted by an umbrella organization. The aim of any government that supports a liberal economy is to ensure that “government deficits are reduced and money is pumped back into the economy”4. However, most countries have mechanisms that ensure that consumers are not exploited.

The dynamics of MMs are often dependent on competitive forces. Overall, “Continuous fluctuations in the money market rates of interest result from changes in the pressure of available supplies of funds upon the market and in the pull of current demands upon the market”5.

The main actors in the course in the dynamism of any MM are the commercial banks. These banks act as both suppliers and consumers of products that are disbursed through the MMs. Furthermore, the banks are the main pillar of the MM because they are the first entities to seek a balance between lenders and suppliers. In most countries, hard currency is often distributed through commercial banks. In liberal economies, the main source of a country’s money is the checking accounts that are held by citizens through commercial banks. For example, Canada’s banking is subject to rigorous regulation.

However, this scenario has paid off in a big way because Canada has one of the most stable banking industries in the world. At one point, observers had doubted the authenticity of the Canadian Banking industry6. These accounts also dictate how money is supplied across various realms. The continuous circulation of money is subject to a certain balance between the money that is going out of commercial banks and the one that is coming in. MM policies are aimed at correcting imbalances between credit and debits. Without the balance that is achieved through the deployment of MMs, most economies around the world would collapse.

Central banks also play a significant role in national and global MMs. A central bank oversees the activities of commercial banks within a certain country. Central banks are the bankers of commercial banks because they deposit money for these smaller organizations and creating cash reserves. Commercial banks can also borrow money from a central bank at a specified interest rate. As a participant in the money market, the central bank can issue out some of its liquefiable assets.

The central bank can also engage in greater financial markets through open-market operations. This is where the central banks ‘forces’ commercial banks to adjust their lending and/or borrowing rates by offering similar products at different interest-rates. The relationship between commercial banks and the central bank has a significant influence on the MMs of a certain country.

The central bank also acts as the liaison of MM transactions that involve various countries. These transactions often usher in international MM. The reserve of any central bank has an allowance that accounts for international monetary transactions. Nevertheless, central banks often use gold and other forms of MM assets in their international business transactions. Popular global currencies such as the European euro or the United States dollar are also common fixtures in the international MMs.

Fig 1: Official reserve assets and other foreign currency assets (approximate market value, in US millions).

February 26, 2016
A. Official reserve assets (in US millions unless otherwise specified) 1 118,987
(1) Foreign currency reserves (in convertible foreign currencies) Euro Yen Total
(a) Securities 11,461 10,643 22,104
of which: issuer headquartered in the reporting country but located abroad 0
(b) total currency and deposits with:
(i) other national central banks, BIS and IMF 12,566 5,825 18,391
ii) banks headquartered in the reporting country 0
of which: located abroad 0
(iii) banks headquartered outside the reporting country 0
of which: located in the reporting country 0

This table indicates the position of the United States Treasury concerning foreign money markets7. The Federal Reserve is strategically positioned to have a stake in all the major MMs around the world. Other central banks have the same approach when it comes to MMs. In this case, the US central bank has taken up the two most competitive markets in both Europe and Asia- the Japanese Yen and the European Euro.

There are international monetary policies that apply to MM thereby creating the currency-exchange market. Several standards are used to harmonize international MMs including the gold standard. In the international arena, each country has to maintain the value of its currency by finding ways to increase its demand8. The exchange rate of any currency is a viable determinant of a country’s economic performance.

Several instruments are used in regards to the MMs both nationally and internationally. MM transactions are often in the form of funds that can be in various forms including liquid cash, securities, or other instruments. Government-issued securities became quite popular after World War II as a result of the increased demand for short-term securities. Consequently, government-issued securities are some of the most prominent instruments of the MM9.

A certificate of deposit is offered by banks and other credit institutions and it indicates when a certain loan will mature and gain interest. Promissory notes or commercial paper are other instruments that mostly indicate the maturity of a certain product. Other common tools of the MM include federal funds, treasury bills, euro-dollar deposits, and municipal notes among others.

The interest that is earned from MM interests depends on the type of instrument that is used in the transaction. Some MM instruments only accrue a fixed amount of interest to their holders while others have varying rates. Fixed-income products have a fixed maturity date and interest can only be accrued after this date has passed. On other occasions “discount instruments, like repurchase agreements, are issued at a discount of face value, and their maturity value is the face value”10.

The money market refers to all short-term cash securities that can mature in less than a year. MM securities mature at a faster rate than other similar products and this makes them less risky. Nevertheless, MMs do not have a high rate of return like other securities. The main players in the MM include commercial and central banks. Central banks also play a major role in international MMs. The international MM is devoid of political influences and it only responds to the financial environments of national actors. Both domestic and international MMs are subject to various instruments that are used to determine the duration and amounts involved in each transaction. The maturity period of any MM product can be increased whereby a higher interest would be accrued.

Reference List

Balaam, David. Introduction to International Political Economy. Upper Saddle River, NJ: Prentice-Hall, 2012.

Department of Treasury. “Resource Centre.” Open Government. Web.

Ehrmann, Michael, and Marcel Fratzscher. “Monetary Policy Announcements and Money Markets: A Transatlantic Perspective.” International Finance 6, no. 3 (2003): 309-328.

Melvin, Michael. International Money and Finance. London: Academic Press, 2012.

Seay, W. “The origins of political Economy.” Lecture at Virginia Commonwealth University, 2016.

Footnotes

  1. Michael Melvin, International Money, and Finance (London: Academic Press, 2012), 17.
  2. David Balaam, Introduction to International Political Economy (Upper Saddle River, NJ: Prentice-Hall, 2012), 23.
  3. W Seay, “The origins of political Economy,” (Lecture at Virginia Commonwealth University, 2016).
  4. W Seay, “The origins of political Economy,” (Lecture at Virginia Commonwealth University, 2016).
  5. David Balaam, Introduction to International Political Economy (Upper Saddle River, NJ: Prentice-Hall, 2012), 43.
  6. W Seay, “The origins of political Economy,” (Lecture at Virginia Commonwealth University, 2016).
  7. Department of Treasury, “Resource Centre,” Open Government. 2015. Web.
  8. Michael Melvin, International Money, and Finance (London: Academic Press, 2012), 97.
  9. Michael Ehrmann and Marcel Fratzscher, “Monetary Policy Announcements and Money Markets: A Transatlantic Perspective,” International Finance 6, no. 3 (2003): 310.
  10. Michael Ehrmann and Marcel Fratzscher, “Monetary Policy Announcements and Money Markets: A Transatlantic Perspective,” International Finance 6, no. 3 (2003): 319.