what is money | Explainer | Training (2023)

Throughout history and around the world, money has taken various forms – from cowrie shells, copper bars, rum and gold coins in the past to brightly colored pieces of paper or polymer and digital bank records today (see images 1, 2, 3 and 4) . A variety of different barter tokens have been used as money throughout Australia's own history (seeBox: Early forms of money in Australia). What connects these different forms of money is not their physical properties, but their function: each money was considered in its time as a reliable means of payment or payment, a means of indicating price, and a means of long-term store of value. In other words, they were:

• widely accepted means of payment
• unit of account
• store of value.

Indeed, these three attributes are the standard definition of what makes something "money."

The material or item used as money need not have intrinsic value. Some forms of money have this property (e.g. gold coins, copper bars), others do not (e.g. paper banknotes). Rather, money derives its value from the trust that people place in it. However, history shows that this trust can be lost if mismanaged. For example, if too much paper money is printed and spent, the value of the money goes down; that is, high inflation will result. In fact, hyperinflation may result. This has happened many times throughout history, including in Zimbabwe in the late 2000s, leading to the population abandoning the Zimbabwean dollar (see image 5) and switching to other, more stable currencies such as the US dollar.

Indeed, maintaining a stable currency and avoiding high inflation is one of the core tasks of central banks. In fact, theReservebankgesetz 1959, which founded the Reserve Bank, specifically named “currency stability” as one of the Reserve Bank Board's three objectives (the others being full employment and the economic prosperity and well-being of the people of Australia).

In colonial times, when coins were scarce, bottles of rum were used as currency.
Bild: Sammlung Hyde Park Barracks Museum, Sydney Living Museums, HPB/UG269.

An ancient Roman gold coin depicting the Emperor Augustus, minted between 4 B.C. and dated 2 AD.
Museen Victoria, Nr. 22518.

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Cowrie shells, like these from Zanzibar in East Africa, have traditionally been used as currency in countless parts of Asia, Africa and Oceania.
Image: British Museum, 2014, 2011.38.

See Also

Understanding Money: Its Properties, Types and Uses

Bild: Reserve Bank of Australia

Image: National Museum of American History, Smithsonian Institution. 2015.0071.1.

Box: Early forms of money in Australia

When the colony of New South Wales was founded in 1788, the colonists relied on barter and rum (spirits) as a makeshift currency. In 1792 a shipment of Spanish dollars was sent to Australia to be used as payment alongside the other international currencies then in use in the colony. In order to counteract the continuing scarcity of coins, new forms of money were developed in the following decades. These included Governor Macquarie's creation of the holey dollar and landfill (see images 6 and 7) (which made two coins out of one), the use of promissory notes (see image 8) or promissory notes and copper tokens (see image 9) used by companies were issued . Promissory Notes and Coppertokens proved an unreliable source of currency, partly because they had no official guarantee.

In 1825 the British government adopted a legal currency for the colony in sterling, which remained the basis of Australian currency until the decimal currency, the Australian dollar, was adopted in 1966. Australia's first gold coins were minted gold-backed banknotes in 1855, although these banknotes did not constitute national currency. Australia, like many other countries at the time, adhered to the gold standard and the total amount of banknotes that banks could issue was limited by their gold reserves. Under the gold standard, money was "backed" by gold - countries agreed to convert paper money into a fixed amount of gold. At the turn of the 20th century, Australia's currency remained a mix of British coins, Australian coins and the notes of private banks and the Queensland government.

In 1910 a national currency law was passed. The Australian government issued 'overwritten' banknotes, with words printed on banknotes purchased from the private banks (see Figure 10). These were the first banknotes to be accepted nationwide. The first genuine Australian banknote was produced in May 1913, with further denominations being produced from 1913 to 1915.

A 5 shilling or "holey dollar" coin created in 1813.
Image: State Library of New South Wales, FL390234.

A fifteen pence or "dump" coin made by piercing a "holey dollar" coin.
Image: State Library of New South Wales, FL398749.

A promissory note issued in Hobart in 1826.
Bild: Note Printing Australia Limited.

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A sovereign gold coin minted at the Sydney Mint in 1855.

10. A £10 note originally issued by the Bank of Adelaide in 1910 and endorsed by the Commonwealth Treasury.
Image: Reserve Bank of Australia Archives, NP-004014.

Learn more about how banknotes are madeNoticearticle onMoney in the Australian Economy.

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why do we need money

Money has value because people trust it has value today and will continue to have value in the future. But history shows that trust is sometimes broken, so why do people keep using money? The answer is that it's incredibly useful in facilitating trade, which in turn has led to a higher standard of living.

Trade allows people to specialize in making those things where they have a comparative advantage. Even the ablest of humans would struggle to find food, build shelters, and make clothes all by themselves. However, if that person lived within a community and could trade with others, then each community member could specialize in one area—perhaps fishing, building houses, or making clothes—and be very knowledgeable about that task. By trading with each other, each member of the community would benefit from the expertise developed by the other community members.

So what role does money play? It enables large-scale production and trade. If you live in a small village where you know and trust everyone, you might be willing to give up some of your fishing today, knowing that if you need (for example) clothes, the tailor will give you something to wear need. If you live in a larger city where you may not know or trust the people very well, you are unlikely to give your fish away to anyone who asks you for it, as you do not trust a tailor, for example gives you new clothes if you ask for them later. While you could try to solve this lack of trust problem with bartering, bartering doesn't usually work very well. For example, the tailor may not want your fish when you need new clothes - in fact, the tailor may never want fish, nor may they have the specific clothes you need. However, with money you can sell your fish to anyone who wants fish, save some of the money they pay you and take it to the tailor for when you need clothes (or whoever you want to buy something from and whenever you want) .

In short, money enables trading with people we may not know or trust, and trading makes society prosperous. Confidence is now placed on the value of money and not on every person you want to buy from or sell to.

What forms of money are used in a modern economy?

There are two main forms of money that exist in modern economies:

• Coins and banknotes (i.e. currency)
• Deposits in accounts with banks or other approved deposit-taking institutions.

currency is onephysicallyForm of money while deposits in accounts with a financial institution aDigitalForm of money and make up the largest part of money in a modern economy. (Learn more inNoticearticle onMoney in the Australian Economy.) There is also a subtle difference between currency and deposit account balances. The currency is backed by the central bank, which eliminates any risk of default. Deposit account balances, on the other hand, are liabilities of private financial institutions (because the depositor can claim them back), and these institutions are exposed to possible default risk. While this risk has materialized in some countries, it is extremely low in Australia. (Australia's banks are well capitalized and regulated, depositors are paid out first if a bank gets into trouble, and there is a financial claims scheme where the government offers a limited guarantee on household deposits from individuals under $250,000.)

What is legal tender?

Legal tender is a form of payment recognized by the legal system so that when it is offered ("offered") to pay a debt, the debt is legally settled (i.e. the creditor cannot refuse legal tender and later sue the debtor in court) . Debts). Banknotes are legal tenderReservebankgesetz 1959and coins are legal tender under theCurrency Act 1965. The monetary system in which a country's currency is backed not by a physical commodity (e.g. gold) but by a government directive making it legal is called the "fiat" system.

How is money created?

Australia's banknotes are manufactured by the ReserveBank of Australia while coins are manufactured by the Royal Australian Mint. Banknotes account for most of the value of physical money and we will focus on them in this guide. Under established arrangements, commercial banks purchase notes from the Reserve Bank on an as-needed basis to meet their customers' demand. Therefore, the increase in the value of banknotes in circulation means an increase in the public's demand for cash.

From a money creation perspective, deposits can also be created when financial intermediaries make loans.^[1]While the process of lending is central to the process of money creation, this does not mean that financial intermediaries can lend and create money indefinitely. Deposit-taking institutions must meet certain regulatory requirements and satisfy themselves that borrowers can repay their debts.

Deposits can also be created by the Reserve Bank, for example when the Reserve Bank buys government bonds (seeHow the Reserve Bank implements monetary policy). Ultimately, when the Reserve Bank buys government bonds from unbanked private sectors, households and businesses deposit the proceeds of the sale in the banking system, which contributes to total deposits.

Is Bitcoin Money?

Bitcoin and other "cryptocurrencies" fulfill some of the properties of money, but not all. Most notably, they can be used as a medium of exchange – some businesses and individuals accept bitcoin as a form of payment, although the number of businesses willing to accept bitcoin is low (i.e., it is not a widely accepted form of payment). When it comes to the other two attributes of money – unit of account and store of value – Bitcoin fails. Stores do not quote prices in bitcoins; Rather, stores that accept bitcoin will typically quote prices in the local currency and then convert to bitcoin at the current exchange rate if someone chooses to pay that way. They do this in part because Bitcoin's price is highly volatile, with this volatility being one reason why Bitcoin is a poor store of value. (For more information seeExplainer: Cryptocurrencies.)

Why don't all countries use the same money?

While a single, stable form of money used by every country in the world would help people spend and save with confidence and plan for the future, it would make it harder for individual economies to respond to economic shocks.) countries have more flexibility in economic management. They are free to vary the value of their currency in response to economic events and conduct their own economic policies (especially monetary policies) independently of those of other countries. Consequently, individual countries (or groups of countries with similar economic characteristics, e.g. the euro area) usually have their own currency.

What is the future of money?

Money has changed form many times over the years, but for as long as there have been complex societies, there has been money. The only reliable prediction one can make about money is that as long as people want to trade with each other, money in some form will continue to exist because the functions it performs are central to sustaining economic activity.

While government payments increase deposits in household or corporate accounts with banks or other deposit-taking institutions, they do not create money because they must be funded by an offsetting transaction that reduces deposits. A government transfer that increases household deposits must be financed by issuing bonds or taxes, both of which reduce deposits.[1]