Chapter 2
Money Market
Lets begin with the kindergartner’s explanation. A market is a place where buyers and sellers meet to trade. When a person needs food, he goes to the supermarket to purchase groceries (trading money for products); hence he is a “consumer” or “buyer.” A farmer produces food and sells it to the supermarket; hence he is a “producer” or “seller.” Your friendly grocer is an intermediary (middleman) who provides a valuable service for which he is compensated. Without the supermarket it would be a terrible hassle to visit a ranch to buy beef, a baker to buy bread, etc. A common name for our money market (there is only 1 market for the world) is “Wall Street”, and it serves the same basic function as your local grocery store.
A person who has too much money, more than he or she can spend immediately, needs to save it for future use. He is called a “saver,” “lender” or “investor.” This individual is motivated by self-interest to get the best deal possible. This means selecting the financial instrument (from all that are available) with the least risk and highest returns on investment. A person who needs money (a “borrower”) must create an IOU (financial instrument) with terms that may include interest and promises to keep the money as safe as possible. The borrower must fashion his IOU to be more attractive to investors than his competition, the IOU’s of other borrower. However, the self-interest of the borrower is to provide the least security along with the lowest returns, exactly the opposite of the interest of the lender. Savers and borrowers can use an intermediary, like a bank, or they can deal directly with one another. In any case, the philosophy of a money market is simple… people trade money for financial instruments (IOU’s). Since an IOU is not tangible, the money market requires faith in order to operate. If savers lose confidence in markets, they will refuse to purchase IOU’s and the economy will grind to a screeching halt.
