Nature, Functions & Usefulness of Money Flashcards
what does Goodhart (1975) believe the primary function of money is?
primary function of money is functional (Goodhart, 1975)
- need for money as a means of payment is caused by the existence of uncertainty
- uncertainty is a necessary but insufficient condition for a monetary system
money carries out several general functions (store of value, unit of account, means of payment) and many specialised functions (e.g. only certain coins can be used to operate a pay telephone box) (Goodhart, 1975)
what causes the need for money as a means of payment?
existence of uncertainty
uncertainty is necessary but insufficient condition for a monetary system
what are the three primary functions of money?
means of exchange
store of value
unit of account
what is the driving force behind the use of money?
specialisation & explicit frictions which implies that agents don’t necessarily consume what they produce
what is meant by money as a medium of exchange?
primary function of money is serving as a medium of exchange in goods & services transactions
use of money, compared to bartering, promotes economic efficiency by minimising the time exchanging goods & services
for a commodity to function effectively as money, it must meet the following criteria: easily standardised, widely accepted, divisible, easy to carry & must not deteriorate quickly
critical factor in determining if an object can serve as a medium of exchange is whether or not agents believe that it will
what criteria must a commodity meet to function effectively as medium of exchange?
- easily standardised
- widely accepted
- divisible
- easy to carry
- must not deteriorate quickly
what is meant by money as a means of payment?
to serve as a means of payment, an object should embody sufficient information to make it generally acceptable without detailed & costly investigation (Goodhart, 1975)
how do the definitions of money as a ‘means of payment’ and as a ‘medium of exchange’ differ? why is the distinction important?
functional definition of money as ‘a means of payment’ is different from, and narrow than, the concept of an asset as ‘a medium of exchange’ (Goodhart, 1975)
distinction is that when the seller receives a medium of exchange, which is not a means of payment, in return for his sale, he will feel that he still has a valid claim for future payment against the buyer - payment is in some sense final
distinction important as conditions that will require a medium of exchange are more general & wider than those that will generate a means of payment
medium of exchange, but not a means of payment, would be needed even in an economy where everyone was certain of future events (Goodhart, 1975)
what is meant by money as a unit of account?
all goods & services in an economy are measured in terms of money
what is the benefit of money functioning as a unit of account?
using money as a unit of account reduces transaction costs in an economy by reducing the number of prices that need to be considered
benefits of this function grow as the economy becomes more complex
what is meant by money as a store of value?
money serves as a repository of purchasing power over time
what is the benefit of money functioning as a store of value?
useful as many people do not spend their income immediately after receiving it, rather prefer to wait until they have the time or desire to consume
money’s biggest benefit as a store of value is that it is the most liquid form of asset
how good a store of value money is depends on the price level
what are the three theories of money?
- state theory of money (chartalism)
- commodity money theory (metallism)
- subjective theory of value
what is the state theory of money?
money must have no intrinsic value & strictly be used as government-issued token, i.e. fiat money
money’s value & existence are fundamentally linked to the authority & power of the state
- money derives its value because the government or state mandates it as a medium of exchange, unit of account & store of value
what is chartalism?
state theory of money
argues that the use of currency was based essentially on its symbolism of the power of the issuing authority (Goodhart, 1975)
- currency becomes money because the coins are struck with the insignia of majesty, not because they happen to be made of gold, silver or copper
- substitution of fiat money for metallic coin in the last 200 years provides strong support for the Chartalist view
