CHAPTER 6 : MONEY AND BANKING

6.1 Money

(A) Definition and Meaning: Money is today popularly used in performing almost all economic transactions i.e. activities which includes the transfer of goods or services from one person or organization to another. It may be in the form of cash and currency or bank credit, bank papers like cheques, deposits, drafts, or in other near money forms such as bonds, shares, securities etc. Presently we will begin with officially supplied money in the form of currency notes. Money has a long history and has passed through several evolutionary forms such as wealth in the form of sheep, coins, gold and silver metals and has finally arrived at paper currency stage. Metallic money or coins is called commodity money while paper currency is known as paper money or fiat money. Another category is bank money which includes the credit that banks offer to depositors.

Paper currency has been increasingly issued and circulated in the present century. It has several advantages over money in the form of gold or silver. It saves the use of precious metals and is less risky to hold. Further, one finds it more convenient to transact with the help of paper currency in small or large quantities. But an even more important feature of the paper currency is its flexibility. Its supply is no more rigidly tied up with the availability of gold and silver.

In most countries that use paper currency, some fiduciary principle is followed by the monetary authorities. (If something is fiduciary it is said to enjoy the support and confidence of the public.) Under proportional fiduciary the amount of paper currency can be conveniently altered whenever a certain proportion, say 40 percent, of gold reserves are maintained. The minimum fiduciary system is even more flexible. It requires monetary authority to possess some minimum gold reserves (say 500 kg of gold) to supply any quantity of paper currency. In either case it is clear that in modern times actual supply or issue of paper currency is much in excess and is never fully backed by gold reserves. Therefore modern currency system is also known as fiat money system. The value of fiat money is actually much less than what it represents.

Money is general purchasing power. It can buy anything and anywhere against itself. In order that money should perform this role as general purchasing power, it must be universally acceptable. This can be possible only when its value is fairly stable and it is not subjected to disorder frequently. In reality, however, because of its excess and flexible supply possibility, the value of money is likely to fluctuate, particularly because paper currency is worth less in its intrinsic (natural) value. Therefore the modern monetary agencies hold a considerable responsibility of maintaining the value of money to keep it as stable as possible. The attempt to achieve this is by carefully controlling the supply of it.

Money as general purchasing power is used as a means of exchange. Money is not normally demanded for itself but for using as a means or medium in buying and selling activities. Therefore money is judged as reliable and trustworthy or otherwise to the extent that it can perform its own functions. Therefore money is commonly defined in terms of its functions. Professor Walker’s simple definition clearly brings out these functions:

"Money is a matter of functions four,
Medium, Measure, Standard, Store."

Another definition based on its functions can be stated as, 'Money is what money does.'