Forms of MoneyChapter No 2

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Terms to Known

Metallic Money1

Paper Money2

Kinds of Paper Money3

Advantages & Disadvantages4

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Amazing Facts

If you had 10 billion $1 notes and spent one every second of every day, it would require 317 years for you to go broke.

There is about $823 in circulation for each person in America.

The $100 note has been the largest denomination of currency in circulation since 1969. The largest bill ever printed was the $100,000 bill; it was actually a Gold Certificate issued in 1934. These notes were used for transactions between Federal Reserve banks and were not circulated among the general public. President Woodrow Wilson was depicted on the bill.

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Dollar paper money life Span

Denomination life

1 22 months

5 2 yeas

10 3 years

20 4 years

50 9 years

100 9 years

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Metallic Money

It consists of coins, made of gold, silver, copper or nickel.

It varies in weight, fineness and value.

Metallic money is in full bodied money or token money.

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Full Bodied Money

The Full bodied money is that whose face value is equal to its intrinsic value of metal.

Govt. retains a monopoly of the issue of full bodied coins. Full bodied money also called standard Money

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Token Money

It is subsidiary money. Its face value is higher than its intrinsic value. Its generally limited legal tender money.

Issuance of token money depends upon the needs of the people.

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Subsidiary ،تابع Money

Subsidiary money is to assist the token

money. All coins of the denominations

from 5 Paise to 25 paise. Such coins are

limited legal Tender.

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Legal Tender Money

Any means of payment which has state’s sanction (Approved) behind it and a debtor can legally compel his creditor to accept in settlement of dues, is called legal tender money. It is of two kinds:

a)Unlimited Legal Tender

b)Limited Legal Tender.

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Unlimited Legal Tender

Unlimited legal tender money is one in terms of which debts can be legally paid up to any amount.

In Afghanistan the currency notes of Afn. 10, Afs. 20, Afn. 50, Afs. 100Afn etc.

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Limited Legal Tender

Limited legal tender money is that which a creditor can accept in settlement of claims up to a certain limit only.

For example Mr. A owes Mr. B Afn. 1321 only to be paid, so Mr. B may pay in following denominations:

• Afn. 1000 x 1, Afn. 100 x3, Afn. 20 x 1 and coin of Afn. 1 x 1

• Afn. 500 x 2, Afn. 50 x 6, Afn. 10 x 2 and coin of Afn. 1 x 1.

• But A may Refuse to accept Coins Afn 5 x 264 and Afn 1 x1.

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Paper Money

Paper money refers to note of different

denominations made of paper and issued

by the central bank or Government of the

Country.

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Kinds of Paper Money

There are three kinds of Paper money:There are three kinds of Paper money: Representative paper moneyRepresentative paper money Convertible paper moneyConvertible paper money Fiat paper moneyFiat paper money

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Representative paper moneyRepresentative paper money

It is that money which is fully backed by It is that money which is fully backed by equivalent metallic reserves.equivalent metallic reserves.

The holder of the bank note can easily get it The holder of the bank note can easily get it converted in standard metal money on converted in standard metal money on demand.demand.

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Convertible paper moneyConvertible paper money

Paper money which carries a promise by the issuer Paper money which carries a promise by the issuer that the paper can be converted into the standard that the paper can be converted into the standard money metal at some future date.money metal at some future date.

The state or the central bank which issues convertible The state or the central bank which issues convertible paper currency does not keep 100% of metallic paper currency does not keep 100% of metallic reserve.reserve.

Some part of the total supply of convertible paper Some part of the total supply of convertible paper money is fully backed by the standard metal money is money is fully backed by the standard metal money is known as known as Covered issue.Covered issue.

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The main characteristics of convertible paper money are

(a) The individuals can get their paper money converted into cash,

(b) The paper money is backed by gold and silver reserves. But, on the assumption that all the currency notes are not simultaneously presented by the public for encashment, the value of metallic reserves is less than the value of the notes issued,

(c) The reserves comprise of (i) metallic portion containing gold, silver and standard coins, (ii) fiduciary portion containing approved securities

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Specimen:

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Fiat money Fiat money (inconvertible paper money)(inconvertible paper money)

It is that money which is not redeemable It is that money which is not redeemable or convertible into gold or silver on or convertible into gold or silver on demand.demand.

It is accepted because it has been It is accepted because it has been declared legal tender by the issuing declared legal tender by the issuing authority and has general acceptance as authority and has general acceptance as a medium of exchange.a medium of exchange.

The intrinsic value of fiat money is nil. The intrinsic value of fiat money is nil.

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Cont….

Fiat money in the words of Keynes is that which is created and issued by the state but is not convertible by law into any thing other than itself and has no fixed value in terms of an objective standard.

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The main characteristics of the fiat money are:(a) It has significantly less intrinsic value

than its face value,(b) It is not convertible into any valuable

asset,(c) It is accepted in transactions at face

value because it is unlimited legal tender.

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Fiat money also has certain demerits:

a) The danger of over-issue of fiat money (or inflation) is always present in a system of fiat money,

(b) It lacks public confidence as it is not backed by metallic reserves,

(c) Foreign exchange rates are liable to wide fluctuations under fiat money system because fiat money is not linked with other country's money through gold.

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Merits of Paper MoneyMerits of Paper Money

1. Economical1. Economical

2. Elasticity of money supply2. Elasticity of money supply

3. Promotes economic growth3. Promotes economic growth

4. Internal price stability 4. Internal price stability

5. Helpful in emergency 5. Helpful in emergency

6. Regulation of exchange rates6. Regulation of exchange rates

7. Uniform quality7. Uniform quality

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EconomicalEconomical

Under paper standard, the central bank Under paper standard, the central bank has not to keep gold or silver for issuing has not to keep gold or silver for issuing of the paper notes.of the paper notes.

The cost of printing paper notes is also The cost of printing paper notes is also very small.very small.

It is thus, most economical form of It is thus, most economical form of monetary standard. monetary standard.

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2.Elasticity Of Money Supply2.Elasticity Of Money Supply

As the money supply is not backed with As the money supply is not backed with

gold or silver, therefore, the monetary gold or silver, therefore, the monetary

authority can easily manage its supply authority can easily manage its supply

according to the requirements of trade according to the requirements of trade

and industry in the country.and industry in the country.

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3.Promotes Economic Growth3.Promotes Economic Growth

Under paper standard, the monetary Under paper standard, the monetary

authority is free to determine its monetary authority is free to determine its monetary

policy.policy.

It therefore regulates the money supply in It therefore regulates the money supply in

such a way that productive resources of such a way that productive resources of

the country are utilized to their maximum the country are utilized to their maximum

and greater economic growth achieved. and greater economic growth achieved.

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4.Internal Price Stability4.Internal Price Stability

Under paper standard, the monetary Under paper standard, the monetary

authority can maintain stability in internal authority can maintain stability in internal

price level by making necessary price level by making necessary

expansion or contraction in money supply expansion or contraction in money supply

according to the economic conditions. according to the economic conditions.

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5.Helpful In Emergency5.Helpful In Emergency

Paper money is also useful in times of Paper money is also useful in times of war when huge funds are needed to war when huge funds are needed to finance it.finance it.

It is also helpful to meet any financial It is also helpful to meet any financial crises.crises.

The monetary authority by expanding or The monetary authority by expanding or contracting the money supply achieve this contracting the money supply achieve this objective.objective.

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6.Regulation Of Exchange Rates6.Regulation Of Exchange Rates

Under paper standard, the international Under paper standard, the international

exchange rates are fixed by purchasing exchange rates are fixed by purchasing

power of the respective countries.power of the respective countries.

Paper currency is an effective and Paper currency is an effective and

automatic regulator of exchange rates automatic regulator of exchange rates

between the countries.between the countries.

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7. Uniform quality7. Uniform quality

The paper money has a uniform quality The paper money has a uniform quality

and the holder least bothers for and the holder least bothers for

possession of new money coins.possession of new money coins.

With the use of paper money, the loss of With the use of paper money, the loss of

precious metals due to wear and tear is precious metals due to wear and tear is

also solved.also solved.

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Demerits of Paper moneyDemerits of Paper money

Danger of inflationDanger of inflationExchange rate instabilityExchange rate instabilityDangers of mismanagementDangers of mismanagementFear of demonetizationFear of demonetizationUse within the countryUse within the country

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1. Danger of inflation1. Danger of inflation

Under paper money, the increase in Under paper money, the increase in money supply is not difficult because it money supply is not difficult because it requires no backing of gold or silver.requires no backing of gold or silver.

The government of the country, to cover The government of the country, to cover the deficit financing, over issues paper the deficit financing, over issues paper currency.currency.

This results in inflationary rise in prices This results in inflationary rise in prices with all its evil effects.with all its evil effects.

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2. Exchange rates instability2. Exchange rates instability

Under paper standard, there are also Under paper standard, there are also wide fluctuations in the foreign exchange wide fluctuations in the foreign exchange rates.rates.

The internal prices do not move in line The internal prices do not move in line with the external prices.with the external prices.

As such external instability arises which As such external instability arises which directly effects the foreign trade.directly effects the foreign trade.

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3. Dangers of mismanagement3. Dangers of mismanagement

Paper standard is useful only when it is Paper standard is useful only when it is efficiently managed.efficiently managed.

If the monetary authority is not vigilant If the monetary authority is not vigilant and does not issue the paper currency as and does not issue the paper currency as required, it often leads to inflation or required, it often leads to inflation or deflation.deflation.

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4. Fear of demonetization4. Fear of demonetization

The paper money has no intrinsic value of its The paper money has no intrinsic value of its own.own.

The monetary authority also does not promise to The monetary authority also does not promise to convert it into precious metal.convert it into precious metal.

If the government at any time orders the If the government at any time orders the demonetization of the currency, And the holders demonetization of the currency, And the holders of the demonetized notes fail to deposit these of the demonetized notes fail to deposit these notes in times, they have then no value. notes in times, they have then no value.

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5. Use within the country5. Use within the country

As the intrinsic value of paper money is As the intrinsic value of paper money is zero, it can only be used in the country zero, it can only be used in the country issuing it.issuing it.

Outside the country only stable paper Outside the country only stable paper money has the value. money has the value.