WHAT IS MONEY Money and Monetary Systems Money

WHAT IS MONEY?

Money and Monetary Systems • Money is everywhere in the world. All economic activity is linked to money. • What is Money? • How did it develop • What does money do? What are the types of monetary systems? This is what we will learn today.

Meaning of Money, or money supply is anything that is accepted in payment for goods and services or to repay debts. Before paper money Gold or Silver was like money as we think of it. We think of money as CURRENCY (paper money and coins) But there are other meanings for money such as: WEALTH - When people say, “Joe is rich – he has a a lot of money”. That can mean he has cars, houses, a boat, stocks, bonds, other assets. Joe is wealthy. INCOME – We might say, “Nancy has a good job and makes a lot of money” She has a good income.

Functions of Money • Whether money is gold or paper, it has 3 primary functions (roles or purposes) in any economy. • 1. A medium of exchange • 2. Unit of account • 3. Store of Value • We will look at each of these seperately

1. Medium of Exchange • In almost all market transactions (buying and selling) in our economy, money in the form of currency is a medium (means) of exchange; it is used to pay for goods and services. • In the past, people used to exchange a good or service for another good or service. This is called BARTER. • We are going to do an activity to show you what bartering is.

Barter Activity • There are 3 goods produced in an economy by 3 groups: Good Postcards Magnet Dice Producer Postcard maker Magnet maker Dice maker

Barter Activity Discussion • How did you feel? • What did you want to be able to do? • How will introducing money into the economy help these 3 producers?

1. Medium of Exchange continued The time spent trying to exchange goods or services is called TRANSACTION COST. In a barter economy, transaction costs are high because people have to find someone who has a good or service that they want and who also wants the good or service they have to offer. If we introduce money into the economy you can buy whatever you want and it takes less time. This promotes economic efficiency. The exchange of money is easier and quicker.

2. Unit of Account • The second role of money is to provide a unit of account. It is used to measure the value in the economy, just as we measure distance in kilometers or weight in kilograms. • By using money as a unit of account we reduce transaction costs by reducing the number of prices. In a barter system we must determine what each good costs so we can have an even exchange. 100 goods may have 100 different prices. This is a problem. • The solution to the problem is to introduce money into the economy and have all prices quoted in yuan or dollars.

3. Store of Value Money also functions or works as a store of value. It can be used anytime. You can spend what you have now or wait for another time to spend it. Money is not the only asset (something that has monetary value such jewelry, houses, stocks, bonds, land, art) that can be used to store or keep wealth. These assets can sometimes pay you more when you sell them than what you can make with money.

3. Store of Value - Liquidity Then why should people keep money? The answer to this question is an important economic term of Liquidity. Money is the most liquid asset of all because it is the medium of exchange. Like water (liquid) is easy to drink, money is easy to exchange, or spend.

Evolution of the Payments System The payments system is the method of making transactions in the economy. This has changed over time and with it the form of money. Before paper money, gold was used as a means of payment. Later, paper assets such as checks and currency began to be used in the payment system as money. Where the payment system is headed or going is important on how money will be defined in the future. Here is how the payments system has evolved or changed.

1. Commodity Money • For anything to function as money, it must be universally acceptable; everyone must be willing to take it in payment for goods and services. • In the past a metal like gold or silver served as money. Money made up of precious metals or another valuable commodity is called commodity money. From ancient times until 200 years ago commodity money functioned as the medium of exchange. Discussion question • What is the problem with paying for goods and services with commodity money?

Commodity money discussion question answer Precious metals like Gold and silver are Too heavy to carry with you.

2. Fiat Money • Fiat money is simply the economic term for paper currency that governments consider legal tender. This means that legally it must be accepted as payments for debts. • Major problems of paper currency and coins is that they are easily stolen and can be expensive to transport in large amounts because of their bulk. Think of the armored car and the cost to transport. • To solve this problem the banks invented checks.

3. Checks • A check can be written to tell your bank to transfer money from your account to someone else’s account without the need to carry large amounts of money. • This was a major change (innovation or new idea) that improved the efficiency of the payments system. • Checks reduce the transportation cost, can be written for any amount and reduces the loss by theft or being stolen. Discussion question? What are the problems with payment by checks?

Checks – Answer to discussion question 1. Checks take time to get from one place to another. If someone needs payment today they may not get the money for 3 or 4 days. 2. Processing checks cost to much. In the US it costs $10 billion per year to process checks.

4. Electronic payment • With computers and the internet it is now cheaper to pay bills electronically. • Paying bills can also be automatically deducted from your account without even the click of a mouse. • Electronic payments are becoming far more common in many countries.

5. E-Money • An example of electric money or e-money is a debit card. Debit cards are used like credit cards and are easy to use and faster to use than cash. The money is taken immediately out of your account. • A more advanced form of debit card is a stored-value card with a pre-set amount of money put on the card paid for in advance. • The smart card contains a computer chip that can be loaded with cash from the owner’s bank account.

E-Finance – Are we Moving Towards a Cashless Society? Discussion Question Even though E-Money is easy to use and efficient why are people reluctant or why do people not want to use it? What do you think? Discuss in groups of 4

Answers to E-Money Question • First, it is very expensive to set up the computer, card reader and telecommunications necessary to make electronic payment work well. • Secondly, electronic payments is a security and privacy concern. People are afraid that someone else might get their information and they worry that government, employers and others might get their data.

Summary 1. To economists, the word money, has a different meaning from income or wealth. Money is anything that is accepted as payment for goods and services or in paying debts. 2. Money serves 3 functions or purposes: as a medium of exchange, as a unit of account, and as a store of value. 3. The payment system has evolved over time. From gold or silver, to paper currency, to checks, to electronic money.

Questions for Discussion 1. Why were people in the USA in the 19 th century sometimes willing to be paid by check rather than with gold, even though they knew that thee was a possibility the check might bounce, or be no good? 2. In ancient Greece, why was gold a more likely candidate for use as money than wine was? 3. Rank the following assets from most liquid to least liquid? a. Checking account deposits b. Houses c. Currency d. Washing machines e. savings deposits f. Common stock