TYPES OF MONEY IN ECONOMICS

WHAT IS MONEY?

Money is an economic unit that functions as a generally recognized medium of exchange for transactional purposes in an economy. It is a commodity which is widely accepted in payment of goods and services in settlement of debts can be called as money.

Money is commonly referred to as currency. Economically, each government has its own currency system. Money is a liquid asset used in the settlement of transactions.  

ACCORDING TO PROF. WALKER

“Money is that money does.”

ACCORDING TO SALIGMAN

“Money is one thing that possesses general acceptability.”

ACCORDING TO GEOFFREY CROWTHER

“Money is anything that is generally accepted as a means of exchange and at the same time acts as a measure and as a store of value.”

FEATURES OF MONEY

1. General Acceptability:

Money is accepted by all as a medium of exchange. Thus, it has general acceptability. No one denies to accept money as a medium of exchange. People do not hesitate to accept it as standard of payment.

2. Measure of Value:

Value of any good or service can easily be measured in terms of money. It is accepted as a measure of value.

3. Active Agent:

Money is an active agent of an economic system. In modern economy, money is required in every commercial process. Process of production cannot start without the participation of money.

4. Liquid Assets:

Money is highly liquid asset. It can easily be converted in goods and services. Debt, stock and bills, etc., are the other liquid assets but the liquidity of money is highest than the other liquid assets. One has to first get to convert other liquid assets into money, then it can be converted in desired goods or services, while money can directly be converted.

5. Money is a Means and not an End:

The word money is means to acquire things desired. Money itself cannot be used to satisfy. It is indirectly used to get any goods or services to satisfy human wants.

6. Voluntary Acceptability:

Money is voluntarily accepted by people. There is no requirement to get legal approval. People always wish to hold money.

7. Government Control:

Reserve Bank of India and Govt, of India have an authority to issue currency which is accepted as a form of money in India. No other authority can issue currency notes. Thus, the government keeps control over the money supply in the country.

FUNCTIONS OF MONEY

“Money is a matter of function four,

A medium, a measure, a standard, a store,

As it does not complete this picture,

We may add some transferability more.”

The functions of money can be categorized as follows:

PRIMARY FUNCTIONS

Primary functions are the main functions of the money which are as follows:

MEDIUM OF EXCHANGE: The most important function of money is that it acts as a medium of exchange to facilitate transactions. Without money, all transactions would have to be conducted by barter system i.e. with the use of commodities in return of commodities. Money has the feature of ‘general acceptability’ and therefore it is an intermediary for goods and services in exchange. In present times, everything can be valued in terms of money. That is why all the commodities are exchanged with the use of the money. Money has removed the problem of barter system of double coincidence of wants. The likelihood of a double coincidence of wants, however, is small and makes the exchange of goods and services rather difficult. Money effectively eliminates the double coincidence of wants problem by serving as a medium of exchange that is accepted in all transactions, by all parties, regardless of whether they desire each other’s goods and services.

MEASURE OF VALUE: Money also functions as a unit of account, providing a common measure of the value of goods and services being exchanged. Knowing the value or price of a good, in terms of money, enables both the supplier and the purchaser of the good to make decisions about how much of the good to supply and how much of the good to purchase.

SECONDARY FUNCTIONS

The secondary or subsidiary functions of money are as follows:

STORE OF VALUE: In order to be a medium of exchange, money must hold its value over time; that is, it must be a store of value. If money could not be stored for some period of time and still remain valuable in exchange, it would not solve the double coincidence of wants problem and therefore would not be adopted as a medium of exchange. Furthermore, money is an easily transported store of value that is available in a number of convenient denominations.

STANDARD OF DEFERRED PAYMENTS: Deferred payments are those payments which are to be made in the near future. Money is accepted as a medium of exchange that is why it becomes the standard of deferred payments. Every day, millions of transactions take place in which payments are not made immediately. Money encourages such transactions and helps in capital formation and economic development of the economy. This function of money is significant because:

  • Money as a standard of deferred payments has simplified the borrowing and lending operations.
  • It has led to the creation of the financial institutions.

Money is undoubtedly a best standard of deferred payments because of the following features:

  • The value of money is relatively more stable as compared to other commodities.
  • Money is a durable commodity.
  • Money is generally acceptable in exchange.   

TRANSFER OF WEALTH: Money also facilitates the transfer of wealth. With the use of money wealth can be transferred to anybody. Also in the present times, the facility of e-banking can be availed to transfer the funds from one place to another.

Example: A person can dispose off his property at one place and can purchase the new one at another place by giving the currency i.e. money in return.

CONTINGENT FUNCTIONS

Prof. Kinley has given the contingent functions of the money which are as follows:

BASIS OF CREDIT: In recent years, the significance of the credit has increased in all parts of the world, Credit instruments such as cheques, bills of exchange etc. are extensively used. Money is the basis of credit. Without money, credit instruments cannot circulate. For example: depositors can make use of cheques only when they have sufficient funds in their accounts.

FACILITATES DISTRIBUTION OF NATIONAL INCOME: Money helps in the distribution of national income among the factors of production across the economy. There are four factors of production i.e. land, labor, capital and entrepreneur. Money is divided among all these factors of production in the form of rent, wages, interest and profits. The share of each factor of production is determined in terms of money and each factor is paid the regard for its contribution in terms of money.

EQUALIZE MARGINAL UTILITIES AND MARGINAL PRODUCTIVITIES: Every rational consumer tries to secure maximum utility out of his expenditure. But the consumer can derive maximum satisfaction only if he makes expenditure on a bundle of commodities in such as way as to equate marginal utilities accruing from them. Money plays an important role in equalizing these marginal utilities because the prices of all commodities are expressed in terms of money.

INCREASES THE PRODUCTIVITY OF CAPITAL: Capital may take several forms, but money is the most liquid form of capital. Capital in the form of money can be put to any use. It is because of this liquidity of money that capital can be shifted from the less production to the more productive uses. The mobility of capital has also increased on account of the liquidity of the money.

HELPS TO MAINTAIN REPAYMENT CAPACITY: Money characterizes the virtue of general acceptability. Therefore, to maintain its capacity to pay, every individual and firm has to keep some amount of liquid money in its assets. By doing so, the firm protects its repayment capacity. Similarly, banks insurance companies and even governments keep some money in the liquid form so that they are able to maintain their repayment capacity.

MONEY REPRESENTS GENERALIZED PURCHASING POWER: Money represents the purchasing power. This purchasing power stored in terms of money can be put to any use. It is not necessary that the money should be utilized for the same purpose for which it has been saved. For example: if a person has saved now to construct a house sometime in future, it is not necessary that he should utilize that saving only for constructing the house. The saver may prefer to spend it on some other more important uses such as education of his children. Objectives for which saving has been made may change overtime. If the objective of the saver changes, he faces no difficulty because money represents generalized power that can be put to any use saver likes.

MONEY DETERMINES THE SOLVENCY: As a matter of fact the solvency of any individual or a firm is determined by considering that the monetary liabilities are properly met or not. If an individual or a firm fails to meet out their monetary liabilities then they are declared as bankrupt.

According to RP KENT

“Money serves as guarantee of solvency.”

MONEY PROVIDES LIQUIDITY TO CAPITAL: Money is the most liquid form of capital and can be put to any use. It is essential to keep capital in a liquid form for variety of motives. According to John Maynard Keynes, money is kept liquid in form of four motives:

  • Income motive
  • Transaction motive
  • Precautionary motive
  • Speculative motive.

According to Paul Einzing, the functions of money can be classified as static functions and dynamic functions which are as follows:

STATIC FUNCTIONS

Static functions are those functions which facilitate the smooth functioning of the economy. These functions are also known as traditional, fixed or technical functions of the money. These are all static functions because without these functions of the economy cannot work in practice. The following are the static functions of money:

MEDIUM OF EXCHANGE: The most important function of money is that it acts as a medium of exchange to facilitate transactions. Without money, all transactions would have to be conducted by barter system i.e. with the use of commodities in return of commodities. Money has the feature of ‘general acceptability’ and therefore it is an intermediary for goods and services in exchange. In present times, everything can be valued in terms of money. That is why all the commodities are exchanged with the use of the money. Money has removed the problem of barter system of double coincidence of wants. The likelihood of a double coincidence of wants, however, is small and makes the exchange of goods and services rather difficult. Money effectively eliminates the double coincidence of wants problem by serving as a medium of exchange that is accepted in all transactions, by all parties, regardless of whether they desire each other’s goods and services.

‘Price mechanism’ is another concept added by Paul Einzing in the function of money as a medium of exchange. The value of goods and services are expressed in terms of money through which price mechanism operates and balance between demand for and supply of goods and services is established.

MEASURE OF VALUE: Money also functions as a unit of account, providing a common measure of the value of goods and services being exchanged. Knowing the value or price of a good, in terms of money, enables both the supplier and the purchaser of the good to make decisions about how much of the good to supply and how much of the good to purchase.

STORE OF VALUE: In order to be a medium of exchange, money must hold its value over time; that is, it must be a store of value. If money could not be stored for some period of time and still remain valuable in exchange, it would not solve the double coincidence of wants problem and therefore would not be adopted as a medium of exchange. Furthermore, money is an easily transported store of value that is available in a number of convenient denominations.

STANDARD OF DEFERRED PAYMENTS: Deferred payments are those payments which are to be made in the near future. Money is accepted as a medium of exchange that is why it becomes the standard of deferred payments. Every day, millions of transactions take place in which payments are not made immediately. Money encourages such transactions and helps in capital formation and economic development of the economy. This function of money is significant because:

  • Money as a standard of deferred payments has simplified the borrowing and lending operations.
  • It has led to the creation of the financial institutions.

Money is undoubtedly a best standard of deferred payments because of the following features:

  • The value of money is relatively more stable as compared to other commodities.
  • Money is a durable commodity.
  • Money is generally acceptable in exchange.   

DYNAMIC FUNCTIONS

Dynamic functions of money directly and actively influences the economic activities of the economy. Dynamic functions have their impact on the economic activities directly or indirectly such as impact of money on price level, production level, rate of interest, distribution of income and wealth etc. the following are the various dynamic functions:

BASIS OF CREDIT: In recent years, the significance of the credit has increased in all parts of the world, Credit instruments such as cheques, bills of exchange etc. are extensively used. Money is the basis of credit. Without money, credit instruments cannot circulate. For example: depositors can make use of cheques only when they have sufficient funds in their accounts.

FACILITATES DISTRIBUTION OF NATIONAL INCOME: Money helps in the distribution of national income among the factors of production across the economy. There are four factors of production i.e. land, labor, capital and entrepreneur. Money is divided among all these factors of production in the form of rent, wages, interest and profits. The share of each factor of production is determined in terms of money and each factor is paid the regard for its contribution in terms of money.

EQUALIZE MARGINAL UTILITIES AND MARGINAL PRODUCTIVITIES: Every rational consumer tries to secure maximum utility out of his expenditure. But the consumer can derive maximum satisfaction only if he makes expenditure on a bundle of commodities in such as way as to equate marginal utilities accruing from them. Money plays an important role in equalizing these marginal utilities because the prices of all commodities are expressed in terms of money.

INCREASES THE PRODUCTIVITY OF CAPITAL: Capital may take several forms, but money is the most liquid form of capital. Capital in the form of money can be put to any use. It is because of this liquidity of money that capital can be shifted from the less production to the more productive uses. The mobility of capital has also increased on account of the liquidity of the money.

HELPS TO MAINTAIN REPAYMENT CAPACITY: Money characterizes the virtue of general acceptability. Therefore, to maintain its capacity to pay, every individual and firm has to keep some amount of liquid money in its assets. By doing so, the firm protects its repayment capacity. Similarly, banks insurance companies and even governments keep some money in the liquid form so that they are able to maintain their repayment capacity.

MONEY REPRESENTS GENERALIZED PURCHASING POWER: Money represents the purchasing power. This purchasing power stored in terms of money can be put to any use. It is not necessary that the money should be utilized for the same purpose for which it has been saved. For example: if a person has saved now to construct a house sometime in future, it is not necessary that he should utilize that saving only for constructing the house. The saver may prefer to spend it on some other more important uses such as education of his children. Objectives for which saving has been made may change overtime. If the objective of the saver changes, he faces no difficulty because money represents generalized power that can be put to any use saver likes.

MONEY PROVIDES LIQUIDITY TO CAPITAL: Money is the most liquid form of capital and can be put to any use. It is essential to keep capital in a liquid form for variety of motives. According to John Maynard Keynes, money is kept liquid in form of four motives:

  • Income motive
  • Transaction motive
  • Precautionary motive
  • Speculative motive.

In simple words, dynamic functions are those functions which cause movements in the level of economic activity in the economy. Money brings about changes in the price level and results into inflation or deflation. Moreover money ensures fuller utilization of available human and natural resources to increase the level of output and income and as a result international trade expands.

TYPES OF MONEY IN ECONOMICS

There are various types of money in economics discipline which are as follows:

COMMODITY MONEY

Commodity money is also known as full bodied money. Commodity money is the money that has intrinsic value. Intrinsic value means that the commodity has value even if it not used as money. It is a means of payment made out of precious metals such as gold or silver or other valuable commodities. It is known as full bodied money because its value is materially equivalent to that of its component stuff. It acts not only a medium of exchange but is also a store of purchasing power.

REPRESENTATIVE MONEY

Representative money is generally made either of cheap metals or paper notes. The intrinsic value of the representative money is less than its face value. Currency notes are good examples of representative money in India. Representative money may or may not be converted into full-bodied money.

CREDIT MONEY OR NEAR MONEY

Near money refers to those objects which can be held with little loss of liquidity. Near money includes cheques, drafts, bolls of exchange etc. It is also known as bank money as this consists of the deposits of the people held with banks, which are payable on demand by the depositors.

LEGAL TENDER MONEY

Legal tender money is the currency which has got legal sanction or approval by the government. It means that the individual is bound to accept it in exchange for goods and services; it cannot be refused in settlement of payments of any kind. It is of two types:

Limited legal tender money: It is that money which no person can be forced to accept beyond a certain limit. For example: In India small coins of denomination of 1,2,5 paise are legal tender only up to Rs. 25. Beyond this limit, anybody can refuse the payment.

Unlimited legal tender money: It is that money which a person has to accept up to any limit. For example: All Indian currency notes are unlimited legal tender money.

ELECTRONIC MONEY

Electronic money involves computer networks to perform financial transactions electronically. Electronic Funds Transfer (EFT) and direct deposits are examples of electronic money. The financial institutions transfer the money from one bank account to another by means of computer and communication links. A country wide computer network would monitor the credits and debits of all individuals, firms and government as transactions take place in the economy.

It exchanges funds every day without the physical movement of any paper money. This would eliminate the use of cheques and reduce the need for the currency.

FIAT MONEY

Fiat money is any money whose value is determined by legal means. It is the money that has no intrinsic value but that has value as money because government decreed that it has value for that purpose. Fiat money is possible because the three functions of money- a medium of exchange, a measure of value and a store of value are fulfilled as long as all people in society acknowledge that the fiat money is a valid form of currency.

ADVANTAGES OF MONEY

Money plays a significant role in the whole functioning of the economy. Its advantages are as follows:

MONEY AND PRODUCTION

Money helps in various ways in the process of production. Money can help producers to decide, plan, execute and manage the production activities, moreover, the existence of money helps the producers to assess the quality and quantity of demand of a consumer regarding the product produced.

MONEY AND CONSUMPTION

Money has a great importance in consumption.  All the consumers consume the products by buying it from the market. The goods are bought in consideration of the money. So money helps in fulfillment of wants of the consumers.

MONEY AND DISTRIBUTION

Money helps in the distribution of national income among the factors of production across the economy. There are four factors of production i.e. land, labor, capital and entrepreneur. Money is divided among all these factors of production in the form of rent, wages, interest and profits. The share of each factor of production is determined in terms of money and each factor is paid the regard for its contribution in terms of money.

MONEY AND CAPITAL FORMATION

Money is essential to facilitate capital formation, Savings of people can be mobilized in the form of money and these mobilized savings can be invested in more profitable ventures. Financial institutions are the part of this process. They mobilize the savings and channelize them to productive uses.

MONEY AND PUBLIC FINANCE

Public finance deals with the income and expenditure of the government. Government receives its income in the form of the money through taxes and other means and make expenditures in development and administrative processes.

MONEY AND EXTERNAL TRADE

Money has facilitated trade not only inside the country but also with the outside countries. With the use of the money, goods and services can easily and rapidly be exchanged. Though in external trade foreign currencies are used in receipts and payments but they are exchanged with the help of domestic currencies.

MONEY AND ECONOMIC DEVELOPMENT

Supply of money is a country affects its economic development. If the money supply is more, then it may lead to inflationary situation in the economy which may hamper growth. Similarly, if the supply of money is lesser than what is required then there will be shortage of liquidity which will lead to lesser investments and hence lesser employment.

DISADVANTAGES OF MONEY

The disadvantages of money are as follows:

ECONOMIC INSTABILITY

Several economists are of the opinion that money is responsible for economic instability in the capitalist economies. In the absence of money, saving was equal to investment. Those who saved also invested. But in a monetized economy, saving is done by certain people and investment by some other people. Hence, saving and investment need not to be equal. When saving in an economy exceeds investment, then national income, output and employment decrease and economy falls into depression.   

On the other hand, when investment exceeds saving, then national income, output and employment increase and that leads to prosperity. But if the process of money creation and investment continues beyond the point of full employment, inflationary pressures will be created. Thus inequality between saving and investment are known to be main cause of economic fluctuations.

The main evil of money lies in its liability of being over-issued in the case of inconvertible paper money. The over-issue of money may lead to hyper-inflation. Excessive rise in prices brings suffering to the consuming public and fixed income earners. It encourages speculation and inhibits productive enterprises. It adversely affects distribution of income and wealth in the community so that the gulf between the rich and poor increases.

ECONOMIC INEQUALITIES

Money is a very convenience tool for accumulating wealth and of the exploitation of the poor by the rich. It has created an increasing gulf between the ‘haves’ and the ‘have-nots. The misery and degradation of the poor is, thus, in no small measure due to the existence of money.

MORAL DEPRAVITY

Money has weakened the moral fiber of man. The evils to be found in the affluent society are only too obvious. The rich monopolizes all the social evils like corruption, the wine and the woman. In this case, money has proved to be a soul-killing weapon.

MEDIUM OF EXPLOITATION

Prominent socialist like Marx and Lenin condemned money but it helps the rich to exploit the poor. When the communists came to power in Russia, they tried to abolish money. But they soon realized that to run a modern economy without money was impossible. All economic activity has to be based on monetary calculations. Accordingly, money is fully and firmly established in all Socialists States. Money performs several functions like facilitating optimum allocation of the country’s resources, functions as a medium of exchange and a measure of value, guides economic activity and is essential for facilitating distribution of national income.

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