The Five Core Principles Of Money And Banking

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There are five core principles in money and banking. These five principles are important because they form the basis of the financial system and its interaction with the real economy, both currently and in the future. These principles work together to provide a consistent and unchanging foundation for understanding the ever evolving financial system. The five core principles are as follows: time, risk, information, markets and stability. Each of these principles will be explained in depth below.
The first core principle is time. The textbook explains that time is value. There is a monetary value assigned to an individual’s time, which is why people are paid salaries for the work they do. The textbook Money, Banking and Financial Markets state
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Risk requires compensation (Cecchetti and Schenholtz 6). This principle essentially states that people are generally unwilling to accept any danger in regards to potential losses to their financial instruments, unless they are rewarded in some way. The more risk a person is willing to accept the higher they expect their return to be. Most people effectively deal with risk by attempting to eliminate or reduce what risk they can. One way for individuals to minimize the risk of life events such as theft, illness or accidents is to purchase insurance. Many believe it is worth paying the insurance premiums, effectively paying that insurance company to assume their personal risks, in order to be compensated in the event of a personal disaster. The insurance company is willing to accept the risk of those individuals because they collect all the premiums each customer is required to pay, based upon the likelihood of their liability. This particular arrangement benefits both parties. The likelihood that every policyholder will need a payout is small, so the insurance company is able to invest a significant amount of their customers’ premiums, creating a profit for …show more content…
Markets are the core of the economic system (Cecchetti and Schenholtz 7). It is the place where financial transactions take place. This is where buyers and sellers meet as well as where savers, borrowers and lenders connect. The financial market is also where individuals can find and purchase assets and firms go to issue stocks and bonds. It is the market that determines prices and allocates resources (Cecchetti and Schenholtz, 7). Essentially determining prices mean that since the market is where a large number of financial transactions take place, the information gathered here signals what is valuable and what is worthless. The financial market allocates resources by connecting the lenders and borrowers in a way that produces capital to invest. Someone who has savings can buy stocks and bonds that allow the companies that issue them to acquire the funds they need for new capital investments, many times less expensively than that company could obtain by borrowing from a bank. A precondition for healthy economic growth is a well-developed financial market. For financial markets to be functional, they must be deemed unbiased and impartial. In order for this to occur, not only do rules and regulations must be established and abided by, an authority must be appointed to ensure that if violations were to occur, punishment for the offenders take place. The government fulfills this role, for if they did not society would lose its faith in the

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