The group is generally referred to as narrow money, as opposed to broad money.īroad money includes all the items included in narrow money, but also any other liquid assets that can be used to buy goods and services. Money includes bills and coins used by consumers in everyday transactions and bank deposits if they can be used for transactions. Money is a medium of exchange and, more generally, any medium that can be used for the exchange of goods and services. And commercial bank money can be described as claims against financial institutions that can be used to purchase goods or services.The definitions of money vary by country but generally include at least a measure for narrow money and one for broad money. Fiat money, on the other hand, gets its value from a government order. Meanwhile, fiduciary money depends for its value on the confidence that it will be generally accepted as a medium of exchange. The four most relevant types of money are commodity money, fiat money, fiduciary money, and commercial bank money. Commodity money relies on intrinsically valuable commodities that act as a medium of exchange. At this point just note that in essence, commercial bank money is debt generated by commercial banks that can be exchanged for “real” money or to buy goods and services. Fractional reserve banking describes a process where commercial banks give out loans worth more than the value of the actual currency they hold. More specifically, commercial bank money is created through what we call fractional reserve banking. It represents the portion of a currency that is made of debt generated by commercial banks. Commercial Bank MoneyĬommercial bank money can be described as claims against financial institutions that can be used to purchase goods or services. Examples of fiduciary money include cheques, banknotes, or drafts. As long as people are confident that this promise will not be broken, they can use fiduciary money just like regular fiat or commodity money. Instead, the issuer of fiduciary money promises to exchange it back for a commodity or fiat money if requested by the bearer. Unlike fiat money, it is not declared legal tender by the government, which means people are not required by law to accept it as a means of payment. Examples of fiat money include coins and bills.įiduciary money depends for its value on the confidence that it will be generally accepted as a medium of exchange. Most modern economies are based on a fiat money system. Hence, the value of fiat money is derived from the relationship between supply and demand. By definition, its intrinsic value is significantly lower than its face value. That means, the government declares fiat money to be legal tender, which requires all people and firms within the country to accept it as a means of payment. If they fail to do so, they may be fined or even put in prison. Unlike commodity money, fiat money is not backed by any physical commodity. Fiat Moneyįiat money gets its value from a government order (i.e., fiat). Examples of commodity money include gold coins, beads, shells, spices, etc. In other words, the commodity itself becomes money. Commodity money facilitates this process because it acts as a generally accepted medium of exchange. The critical thing to note about commodity money is that its value is defined by the intrinsic value of the commodity itself. Commodity money is closely related to (and originates from) a barter system, where goods and services are directly exchanged for other goods and services. It builds on scarce natural resources that act as a medium of exchange, store of value, and unit of account. Commodity MoneyĬommodity money is the simplest and, most likely, the oldest type of money. To give you a brief overview, we are going to take a look at the four most relevant ones below: commodity money, fiat money, fiduciary money, and commercial bank money. Virtually anything can be considered money, as long as it performs what we call the three major functions of money (i.e., medium of exchange, store of value, unit of account). With this in mind, it is not surprising that there were different types of money throughout history. In economics, money is defined as a generally accepted medium of exchange for goods and services. By Raphael Cedar | Updated (Published Sep 17, 2016)
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