What are the types of money? Money is complex and for this reason, it can be put into various categories.
This article covers everything from different types of money in the world, types of money in economics, kinds of money, types of money in supply, and other important aspects pertaining to money.
Also be on the lookout for the functions of money, its characteristics, and disadvantages. Indulge yourself below!
What are The Types Of Money In Economics?
Money is a commodity extensively used as a medium of economic trade. Trade is facilitated, and in most cases, it becomes the principal measure of wealth.
There are 5 major types of money in the world, namely fiat money, commodity money, representative money, commercial money, and fiduciary money as discussed below;
1. Fiat Money
Fiat money is money the government has declared valuable despite having no intrinsic value. It only has value because the government has declared it to be so. Fiat money is any money that a nation’s government has approved as legal tender, and its citizens primarily use it as the country’s legal tender.
The people in that specific country recognize the decreed money as legal tender. They have no problem using it as a measure of value, a medium of exchange, and a store of value.
Most fiat money takes the form of coins or notes (paper money), the most well-known of which is the US dollar, the British pound, the euro, etc.
Here’s some insight into the process of how money is made.
2. Commodity Money
Commodity money, unlike fiat money, has substantial value, meaning its value comes from the commodity it is made from. Commodity money is a physical good that people use universally to trade for other goods. We can see, feel and touch it.
Most of these commodities are the earliest forms of money. Examples of commodity money are precious metals like gold and silver, cowries, tobacco, cocoa beans, alcohol, e.t.c.
Due to their scarcity, these commodities are used as mediums of exchange, and their value rises as a result. However, because people trust it, they value it more.
3. Representative Money
Representative money is a type of money that is worthless on its own but stands in for something valuable. People use it because of the instrument’s value and the ability to trade it for a fixed amount of valuable commodities.
Representative money can either be printed or digital. Types of representative money are bank orders, credit cards, cheques, gold or silver certificates, e.t.c.
Representative money is backed by different assets or financial instruments, while Fiat is supported by the government. An example is a gold certificate backed by gold in a bank’s vault.
By having something to stand in for a portion of the items you want to trade, you can avoid transporting your physical goods around. It is simpler to use and creates an accepted neutral medium of exchange.
4. Commercial Money
Commercial money is the money banks make from their customers’ deposits. When people deposit money in banks, the banks lend that same money—with interest—to other customers.
The bank invests the interest it receives.
Fractional-reserve-banking is used to describe this specific method of generating commercial money. The banks do not lend out all the money; part is kept as reserves. The banks immediately impact an economy’s money supply since what they lend generates new money.
Commercial money ensures that bank deposits are used to expand the economy’s financial resources. The money generated will be invested and used for development.
5. Fiduciary Money
Money accepted as a medium of exchange by two parties engaged in a transaction is known as fiduciary money. The two parties act this way because they accept the fiduciary money, not because the government has deemed it legal.
Fiduciary money includes things like bank notes, drafts, and cheques.
Here, the issuer (bank) guarantees to exchange fiduciary money for a commodity or fiat money following the bearer’s wishes. However, any recipient of fiduciary money must have enough trust in the issuer to honor their promise.
The trust between the payer and the payee is the basis of fiduciary money.
For instance, cheques are considered fiduciary money and are frequently accepted as a payment between two parties to a transaction. The two parties agree to this out of mutual trust rather than a government directive.
How Many Types Of Money?
Money is the current medium of exchange commonly accepted and recognized when paying for products and services and settling debts. It comes in many different types in the modern world.
Let us look at the different types of money that exist in the world;
1. Metallic Money
Precious metals like iron, silver, e.t.c. have been used as money for centuries. But they required a lot of measuring, so governments decided to put stamps to validate a specific value.
Coins became the new type of metallic money, but people used and still use them for minor transactions. The various names for coins in different countries are rupees, penny, nickel, shilling, dime, quarter, e.t.c.
2. Paper Money
When carrying large numbers of coins for transactions grew inconvenient and risky, paper money quickly overtook metallic money. Governments defined fiat paper money as the acceptable form of payment.
Governments currently legalize paper money as notes for people who want to conduct large transactions. A nation’s central bank or treasury typically controls paper money printing following its monetary policies.
The dollar, euro, and peso are the other common examples of paper money.
3. Bank Money
Checks and drafts, debit cards, and money orders are the main types of bank money.
A particular bank’s clients deposit money there for safekeeping. Customers can use checks backed by the same bank deposits to conduct transactions. The bank customer can still take money out of the account whenever they want.
4. Electronic Money
A type of money known as electronic money is only available in digital or electronic form. Since these kinds of money don’t have a physical form, the only way to access them is through a computer or a mobile device.
The central-bank-digital-currency, a regulated digital currency issued by a nation’s government, is an example of electronic money.
You can still use electronic money (digital currency) to purchase products and services. The best thing about electronic money is that there is no need for two parties to meet to conduct a transaction physically. You can send money to Singapore, for instance, while still in Canada.
What are the Functions of Money?
To fully understand the basics of money, it is also essential to understand its various purposes. Let us look at the types and functions of money:
1. Store Of Value
A store of value means that you have the confidence that even if you don’t spend the money now, it will still have the same value next week or after several months. Even though it will have less purchasing value, it is still money, and you will continue using it.
A store of value will be any money, possession, or commodity that you can convert into another at a later stage. A store of value must be able to be saved, retrieved, and exchanged while retaining its purchasing power to qualify.
You can use money as a means of saving and allocating capital. It also facilitates a transfer of purchasing power over time. You can save money in the account until such a time when you decide to buy a house; in this case, money acts as a store of value.
2. Measure Of Value
Money provides a common measure of the value of the goods and services being exchanged. Hence, it acts as a unit of account.
Knowing the value of the items one sells enables the seller to inform the buyer of the acceptable price. People’s perceptions of what something is worth are made more apparent.
3. Medium Of Exchange
You can use the money to exchange goods and services as a medium of exchange. For the longest time, gold and precious metals were used as a medium of exchange before money came into existence. You will pay using money when you want to buy goods or services.
Money cannot serve as a medium of exchange unless the value is widely known and accepted. For example, everyone knows the value of a 20-dollar bill and what it can buy.
Every good or service sold is determined by its market worth. Because of this, the world could shift away from barter trading, which involved exchanging goods for goods.
4. Standard Of Deferred Payment
Payments you don’t make immediately are referred to as deferred payments. You can buy things or services now that you can pay for in the future because the value of money is constant.
The development of financial institutions today engaged in lending money to be repaid later was prompted by this particular function of money. The money supports these kinds of transactions, which have fueled capital formation and the growth of a nation’s economy.
Money is often used for deferred payments because it is durable, generally accepted, and has a considerably more steady value than other commodities.
For more information on the function of money and its history from the earliest form to the current, check out why money exists.
What are the Characteristics of Money?
Money’s characteristics are those traits that help make it so widely accepted as a medium of trade. They include the following characteristics:
- Acceptability: It should be broadly recognized without requiring legal authorization from anyone. People readily accept it because it is a typical form of payment.
- Relatively scarce: It should not be easy to get. The government should regulate and limit the money supply to maintain its worth.
- Portable: It must have great value in bulk to be compact and easy to carry.
- Durability: Money is a non-perishable good that should last a long time. Even after being passed from hand to hand, nothing should be able to diminish its value.
- Divisibility: It should be able to be divided, but the combined mass after division should be essentially the same as before. For instance, if you split a $20 note into four $5 bills, the sum of the four $5 bills will equal a $20 bill.
- Stability of value: Its worth shouldn’t fluctuate. Over an extended period, the value ought to be stable.
What Types of Money Do We Use?
It’s interesting how each country seems to have a different term for money, even though the definition is the same. According to the United Nations, the world is said to have 180 different types of money. Let’s examine the six most well-known types of currencies in the world;
- US Dollar: It is mainly used in the United States and is seen as a significant player in the global economy. Despite not being the strongest currency, the dollar is the most used in international trade. It is the most accepted unit of account for most international transactions involving the exchange of products and commodities like crude oil and precious metals.
- The Euro: On average, most EU members use it as the recognized form of currency in the EU. As the second most traded money, the euro follows the dollar closely. The majority of European nations utilize the euro. You can leave France with your euros and still use them in Sweden.
- Canadian Dollar: Canada’s official currency unit is the Canadian Dollar (CAD). Due to Canada’s abundance of natural resources, mainly crude oil, its value continues to be high. The US and Canadian dollars are frequently exchanged because America is Canada’s leading trading partner.
- Japanese Yen: Due to Japan’s manufacturing and export-driven economy, the Yen is the most traded currency in Asia.
- Australian Dollar: The fifth most traded currency worldwide is the Australian Dollar (AUD). It is mainly used in Australia and parts of Asia. One of the dominant currencies in the Asia-Pacific area is the Australian dollar.
- Great British Pound: The UK uses its currency distinct from the EU’s. The fourth most traded currency in the world is the Great British Pound, usually known as the pound sterling. Despite the effects of Brexit on the pound’s value, it is still recognized as the official currency of its territories.
Other types of money in the world include the Swiss Franc, South African Rand, Dinas, Pesos, and Reals. In some countries, nature has influenced the choice of names for their money, such as lek in Albania, Kuna in Croatia, quetzal in Guatemala, and many others.
What Are The Benefits Of Money?
Money is a critical element of how an economy works in a country. No country can function without a legal tender like money, which is why the same government must regulate the money supply. The following are the benefits of money:
- People use the money to fulfill a variety of needs. They spend their money on food and services, i.e, getting their hair done. While the seller earns a profit, the buyers are happy that they met their demands.
- The growth of capital is aided by money. People can save money and put it toward more lucrative projects. You can establish an income-generating business, purchase real estate, or finance higher education.
- Money has made it possible for people or countries to trade across borders. You can now manage to buy goods or services from another country simply by sending money electronically to the seller.
- A nation’s economic progress is influenced by its money supply—low liquidity results from a lack of money, which slows investment and causes job losses. Money oversupply causes inflation, so there is more money in circulation than available products to buy.
- Land, money, entrepreneurs, and labor are a country’s production factors. Money is divided among all these factors of production aids in allocating the national income.
What Are The Disadvantages Of Money?
Despite playing a significant role in a nation’s economy, money has some disadvantages;
- The value of money does not remain constant, causing instability in the economy. Too much supply causes inflation and too little causes deflation. Because those who have money can afford what they can, inflation benefits the wealthy. The working class and the poor have it tough because of unemployment and deflation.
- Sadly, the majority of social ills now stem from money. People motivated by a need for money often engage in corrupt behaviors, including stealing, fraud, murder, and other social vices.
- Unfortunately, when it comes to how wealth and income are distributed, money has become the leading cause of inequality. There is now a rift in society due to the disparity between the rich and the poor.
- Money has developed into an exploitation tool as well. In some civilizations, the wealthy take advantage of the less fortunate by providing their employees with terrible working conditions and doing so deliberately.
Types Of Money: Conclusion
You must first understand the basics of money to understand why it appears to “rule the world.” Knowing the various types of money used in an economy also helps you understand why you can still transact without physical cash.
It is also essential to understand the numerous functions of money, its characteristics, as well as its disadvantages. Do you have additional thoughts, reactions, or comments concerning the types of money? We are always eager to hear from you in the comments section below.
Hey there, welcome to my blog!
I’m Swati, a mom, a personal finance enthusiast, and the owner of TheBlissfulBudget. My work has been featured in major publications including Fox 10, Credit Cards, Cheapism, How to Fire, Databox & Referral Rock.
I help busy budgeters like you save and make money by utilizing simple yet effective methods that can create wonders.
My Mantra: You are entitled to live the life you desire, and financial bliss should be simple to obtain–check out my blog for helpful tips on acquiring wealth easily.