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Monetary economics
Chapter No # 2
Forms of money
Instructor: M.N Nasrat
All materials related to monetary
economics are available in:
nasirnasrat.wordpress.com
Terms to Known
1.Metallic money
2.Paper money
3.Kinds of paper money
4.Merits and demerits of paper
money
5.Significance & evils of money
(advantage of money)
6. Role of money
Metallic Money
o It consists of coins, made of gold, silver, copper ornickel. It varies in weight, fineness and value.
oMetallic money is in full bodied money or tokenmoney.
1. full bodied money: The Full bodied money is thatwhose face value is equal to its intrinsic value ofmetal.
Govt. retains a monopoly of the issue of full bodiedcoins. Full bodied money also called standard Money
Metallic Money
2. Token money: It is subsidiary money whichits face value is higher than its intrinsicvalue. Its generally limited legal tendermoney.
o Issuance of token money depends upon theneeds of the people.
Legal Tender vs. optional money
Legal tender money: Any means of paymentwhich has state’s sanction (Approved) behind itand a debtor can legally compel his creditor toaccept in settlement of dues, is called legal tendermoney. It is of two kinds:
a) Unlimited Legal Tender
b) Limited Legal Tender
Legal Tender vs. optional money
a) Unlimited Legal Tender: Unlimited legaltender money is one in terms of which debtscan be legally paid up to any amount
o In Afghanistan the currency notes of Afn. 10,Afs. 20, Afn. 50, Afs. 100Afn etc.
Legal Tender vs. optional money
b) Limited legal tender money: is that which a
creditor can accept in settlement of claims up to a certainlimit only.
For example Mr. A owes Mr. B Afn. 1321 only to be paid, soMr. B may pay in following denominations:
1. Afn. 1000 x 1, Afn. 100 x3, Afn. 20 x 1 and coin of Afn. 1 x1
2. Afn. 500 x 2, Afn. 50 x 6, Afn. 10 x 2 and coin of Afn. 1 x 1.
3. But A may Refuse to accept Coins Afn 5 x 264 and Afn 1x1.
Legal Tender vs. optional money
Optional money: it refers to that money which may or may
not be accepted in the discharge of debts. Bank cheque is an
example of optional money. In this case, the creditor need not
accept cheque from the debtor since this type of money does
not possess the characteristic of general acceptability. No one
can be forced to accept cheque against the wishes of the
people. It has no legal sanction behind it.
Paper Money
Definition: Paper money refers to note of
different denominations made of paper and
issued by the central bank or Government
of the Country.
There are two kinds of Paper money:
1. Representative paper money
2. Fiat paper money
Representative paper money
Representative money refers to that money which
is made either of cheap metal or convertible paper
money. It is cared not for its own sake but for the
sake of the commodity money whom it represents.
It may either be representative full-bodied money
or representative token money or fiat money.
The holder of the bank note can easily get it
converted in standard metal money on demand.
Fiat money (inconvertible paper money)
o It is that money which is not redeemableinto gold or silver on demand. It isaccepted because it has been declaredlegal tender by the issuing authority andhas general acceptance as a medium ofexchange. The intrinsic value of fiat moneyis nil.
o Fiat money in the words of Keynes is thatwhich is created and issued by the statebut is not convertible by law into any thingother than itself and has no fixed value interms of an objective standard.
Characteristics of the fiat money
The main characteristics of the fiat money
are:
1. It has significantly less intrinsic value than
its face value,
2. It is not convertible into any valuable asset,
3. It is accepted in transactions at face value
because it is legal tender.
Merits of Paper Money
Class activity: work in pair, and
make a list of merits of paper
money.
Merits of Paper Money
1. Economical
2. Elasticity of money supply
3. Promotes economic growth
4. Internal price stability
5. Helpful in emergency
6. Regulation of exchange rates
7. Uniform quality
Merits of Paper Money
1. Economical:
Under paper standard, the central
bank has not to keep gold or silver for
issuing of the paper notes.
The cost of printing paper notes is also
very small.
It is thus, most economical form of
monetary standard.
Merits of Paper Money
2. Elasticity Of Money Supply:
As the money supply is not backed
with gold or silver, therefore, the
monetary authority can easily
manage its supply according to the
requirements of trade and industry
in the country.
Merits of Paper Money
3. Promotes Economic Growth:
Under paper standard, the monetary
authority is free to determine its monetary
policy.
It therefore regulates the money supply in
such a way that productive resources of
the country are utilized to their maximum
and greater economic growth achieved.
Merits of Paper Money
4. Internal Price Stability:
Under paper standard, the monetary
authority can maintain stability in internal
price level by making necessary
expansion or contraction in money
supply according to the economic
conditions.
Merits of Paper Money
5. Helpful In Emergency:
Paper money is also useful in times of war
when huge funds are needed to finance it.
It is also helpful to meet any financial
crises.
The monetary authority by expanding or
contracting the money supply achieve this
objective.
Merits of Paper Money
6. Regulation of Exchange Rates:
o Under paper standard, the international
exchange rates are fixed by purchasing
power of the respective countries.
o Paper currency is an effective and
automatic regulator of exchange rates
between the countries.
Merits of Paper Money
7. Uniform quality:
o The paper money has a uniform quality
and the holder least bothers for
possession of new money coins.
o With the use of paper money, the loss of
precious metals due to wear and tear is
also solved.
Demerits of Paper money
1. Danger of inflation
2. Exchange rate instability
3. Dangers of mismanagement
4. Fear of demonetization
5. Use within the country
Demerits of Paper money
1. Danger of inflation:
o Under paper money, the increase in money
supply is not difficult because it requires no
backing of gold or silver.
o The government of the country, to cover the
deficit financing, over issues paper currency.
o This results in inflationary rise in prices with
all its evil effects.
Demerits of Paper money
2. Exchange rates instability:
o Under paper standard, there are also
wide fluctuations in the foreign exchange
rates.
o The internal prices do not move in line
with the external prices.
o As such external instability arises which
directly effects the foreign trade.
Demerits of Paper money
3. Dangers of mismanagement:
o Paper standard is useful only when it is
efficiently managed.
o If the monetary authority is not vigilant
and does not issue the paper currency as
required, it often leads to inflation or
deflation.
Demerits of Paper money
4. Fear of demonetization:
o The paper money has no intrinsic value of its
own. The monetary authority also does not
promise to convert it into precious metal.
o If the government at any time orders the
demonetization of the currency, And the
holders of the demonetized notes fail to
deposit these notes in times, they have then
no value.
Class activity:
Why the governments demonetized
their money?
Demerits of Paper money
5. Use within the country:
o As the intrinsic value of paper money is
zero, it can only be used in the country
issuing it.
o Outside the country only stable paper
money has the value.
Significance & evils of money
1. Money and consumption: money
enables every consumer to generalize
his purchasing power. It gives the
consumer to command over anything he
wants to buy. It provides him the
freedom of choice of consumption.
2. Money and production: money
enables the producer to concentrate his
attention on the organization of the
production process. This will add
effectively to the general flow of goods
and services. Money has made division of
labor in the modern industrial production
possible.
Significance & evils of money
3. Money and exchange: money
facilitates exchange of goods and services
on easy terms without any difficulty. It has
been the basis of price mechanism in the
modern society.
4. Money and distribution: money
enables the organizer to distribute the
shares of all factors of production in the
form of rent, wage, interest and profit.
Significance & evils of money
5. Money and public finance: without
the use of money, no policy can be
devised and implemented by the
government. Government activities can be
expanded only with the use of money.
Money helps in achieving economic
stability in the economy. Therefore, plays
a significant role in shaping the economic
life of a country.
Significance & evils of money
Significance & evils of money
Money is a good servant but a
bad master.
- Henry G. Bohn
1. Instability of value: the main evil
of money is its instability. Even though
money was invented to measure the
value of all goods and services,
sometimes the value of money does not
remain stable. Such instability of its
value is mainly due to inflation and
deflation.
Significance & evils of money
2. Inequality of income: there is an
inequality in the distribution of income
among people. It gives rise to two classes
of people, namely, rich and poor. The rich
class saves a large part of their income,
whereas the poor class spends most of
their income and saves only less.
Significance & evils of money
3. Root of all vices: those people who
earn more generally spend their income
on vices. It is the root cause for many
vices such as corruption, bribery,
prostitution, theft, murder and other
social evils.
Significance & evils of money
1. Role of money in a capitalist economy: Price
mechanism is, in fact, the main pillar of the
capitalist economy. This price mechanism is
expressed in terms of money. All important
decisions are made with the help of price
mechanism under capitalist economy. Money plays
a significant role in a capitalist economy. Consumer
are free to choose within certain limits what goods
to buy and how much to buy. Consumer are also
free to spend money as they like.
Role of money
2. Role of money in a socialist
economy: all economic activities in a
socialist economy are planned, regulated
and controlled by the state. The only
difference between capitalist and socialist
economies are that money plays a minor
role in a socialist economy as compared
with its role in a capitalist economy.
Role of money
د دوهم څپرکی پاي
د درسونو څخه د بشپړ اخذ له پاره لیکچر ته توجه : یادونه
وش ئ، په صنفې بحثونو کي دې برخه واخیستل ش ئ او د خارجې او !ضمنې مطالعې ترڅنګ کتاب دې مطالعه ش ئ
: کتابMoney and banking, E. Narayanan Nadar