Money: Definition, Types, Characteristics and functions


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Barter system may be defined as moneyless transactions. This prevailed in primitive societies. But it is still alive, of course, in an exceptional way.

However, in international trade, sometimes direct exchange of goods for other goods (in lieu of currency) takes place. This kind of barter arrangement in international trade, called ‘countertrade’, is resorted to when particular foreign currencies are in short supply or when countries apply foreign exchange controls.

The barter system had to go as it involved serious difficulties in all kinds of transactions. It has been replaced by money. Money is probably the greatest invention of mankind. Its importance in an economy cannot be overemphasized. It is so indispensable that a modern economy may rightly be called a ‘monetary economy’.

“Money is one of the most fundamental of Man’s inventions. Every branch of knowledge has its fundamental discovery. In mechanics it is wheel, in science fire, in politics the vote. Similarly, in economics, in the whole commercial side of Man’s existence, money is the essential invention on which all the rest is based”.

Though the invention of money is regarded as the greatest achievement of mankind, its date of invention is still unknown to us. In fact, its history is partly imaginary, though anthropological research has confirmed much of it.

Definition of Money

Money is anything that is generally acceptable as a means of exchange, and in the settlement of debts.

Money is a current medium of exchange in the form of coins and banknotes; coins and banknotes collectively.

Money is anything that is generally acceptable as a means of payment.

Characteristics of Money

General Acceptability: Money must be generally acceptable by all in the society or country as a means of exchange. This shows the confidence people have in money.

Portability: The object that serves as money must be something that can easily be carried about from one place to another, which means such object has to be light in weight.

Relative Scarcity: Money must be relatively scarce, that is, it must not be too many so as not to lose its value

Homogeneity: Each unit of money must be same in size, colour and quality and be the same nationwide

Durability: The object that will serve as money must be able to last long, it must not be a perishable commodity, it must be able to stand the test of time.

Stability: The value of money must be stable. The stability of its value will help business to be predictable and encourage lending and borrowing of money.

Divisibility: Money must be capable of being divided into smaller units, e.g. ₦100, ₦50, ₦20 etc., to enable it to purchase both high and low priced commodities.

Recognisability: Money must be easily recognized and identified by the totality of the people in the society. It must not be easily counterfeited.

No Intrinsic Value: The commodity that should serve as money must have little or no value in itself as opposed to its value of exchange.

Function of Money

Medium of Exchange:  Money can serve as a medium through which money can exchange goods and services. Money can be used to buy different variety of goods and services. This facilitates the means of exchange. It came into use as a result of the inadequacies of the barter system. Money is therefore widely acceptable as payment for debts.

Standard of Deferred Payment: Since money can be stored, it can be accumulated to pay debts that are fixed in terms of money. Money can serve as a medium by which business transactions on credit can be settled in the future. The use of money makes it possible for payments to be deferred from the present to some future date.

Unit of Account: In serving as a unit of account, it becomes practically possible for individuals and companies to keep accounting record of their transactions in bank statements, ledgers and invoices.

Store of Value: Money is a good store of value because wealth can be stored for future use. When there is no inflation, money stored or saved retains its value for many years.

As a Measure of Value: The values of goods and services are expressed by prices, therefore money is used as a yardstick to measure and compare the worth of goods and services as well as.

Types of Money:

(a) Commodity Money:

Money is a very old convenience since it is generally accepted as a medium of exchange. In the earliest days of human civilization, commodities were commonly used as money. During the World War II, the British and German prisoners of war camp used cigarettes amongst themselves as the medium of exchange, rather by consensus and not by the fiat of the government.

Anyway, cigarettes could not be thought of as ‘money’ in the true sense because of its certain inherent characteris­tics. At that time, it acted as a ‘crude’ form of money. But the commodity money had no general acceptability since it circulated as money in a particular locality.

Once people moved from primitive rural locality, commodity money lost its acceptability even in a pure simple localized economy. That is why one finds an historical association between metal and money. Money became synonymous with precious metals.

(b) Metallic Money:

Three metals—silver, copper and gold—were used for the purpose of exchange. Of all the commodities, metals proved its great advantages. More or less, all the attributes of good money (e.g., stability of value, divisibility, cognoscibility, acceptability, etc.) were to be found in money metals. But metallic money had some inherent defects. Firstly, the ascertainment of the quality of metals was a tiresome process.

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Secondly, divisibility of metals for smaller transactions was highly inconvenient, if not impossible. The invention of coins removed some of these difficulties. The king of a country had kept the right to issue coins with standard weight and quality by stamping his name on them. This is how coins came into existence.

(c) Paper Money:

After coinage, the next stage in the development of money was paper money. Metallic money, made of precious metals, suffers from the disadvantages of being stolen easily. It is both dangerous and inconvenient to carry precious metals from one place to another. European merchants and people kept their gold and silver with goldsmiths for safe custody.

Against these deposits of metals, goldsmiths issued a paper- receipt showing a claim of the owners of metals. The receipts that the goldsmiths issued were perhaps the first form of paper money. The depositors used these metals to carry transactions, wherever the situation arose.

But it ultimately turned out to be cumbersome transactions. With the passage of time, these goldsmiths were able to generate confidence among depositors as well as general public. Consequently that bit of paper became substitute for metallic money.

This document helped the process of transaction easily. Later on, the issue of paper money was left into the hands of the commercial banks. Nowadays, the central bank of a country has been given monopoly power to issue paper notes.

(d) Credit Money:

Another type of money in the modern world is credit money or bank money (cheques, drafts, promissory notes, etc.). It is difficult to imagine a modern economy without credit. Large transactions over the entire country as well as outside the country are credit transactions. With the increase in economic activity, the need for an ever-increasing supply of money is felt.

In fact, economic transactions have become easier and smooth with the use of credit money or bank money, so that paper currency running to lakhs and crores of rupees, for transaction purposes need not be used. Since cheques and drafts can be sent safely in any part of the world, these are considered to be superior to paper notes.

(e) Electronic Money or E-Money:

In this age of computer technology, we have entered a new stage of evolution of the payments system with the advent of electronic money, e-money is a money that is stored electronically, i.e., cheques are put in the e-mail. Its important forms are credit cards, debit cards and electronic cheques.

Former enables people to purchase goods by electronically transferring money directly from their accounts to the seller’s account. Electronic cheques allow Internet users to pay their payments directly over the Internet without having to send a paper cheque. All these suggest that we are heading towards near cashless society.

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