Nature and functions

of money

CH # 1
Terms to know:

Meaning of Barter system

Inconveniences of Barter system

Definition of money

Kinds of money

Functions of money
 Meaning of Barter:

 There was a time when money did not exist,

people used to exchanges goods for goods.

 Such a system for exchange of goods

without the use of money is called barter.

Or

 The direct exchange of goods for other

goods is called barter.
 Inconveniences of Barter system

Lack of common measure of values

Lack of bauble A C Lack of store of

coincidence of values
wants
Difficulties
In Barter
system

Difficulties in E D Payments in
tax collection the future
Inconveniences of Barter system:

 Lack of double coincidence of wants:

First difficulty was that… exchange of goods can take place
b/w two persons only if each posses the good which the
other wants.

 Lack of common measure of value:

If incidentally two persons met together who wants each
other goods, they could not find a satisfactory value of their
goods, under such circumstances one party has to suffer.

 Lack of store of value:

Goods cannot be stored for a long time, because their
decreases as time passes.
 Inconveniences of Barter system
(continued):

 Payments in the future:

Under the system of barter, it is very inconvenient to lend
goods to other people. With the lapse of time, the value of
the commodities may fall.

 Difficulties in tax collection:

Under Barter system the tax cannot be collected in the
form of goods. If the commodities are collected from the
tax payers, they will not only lose value as time passes on
but are difficult to store also.
 What is money:

 “Money is the modern medium of exchange

and the stander unit in which prices and
debts are expressed.”
(Prof. Samuelson)
 Money is any material, which is commonly
accepted and generally used as a medium of
exchange for all types of transactions.

 Thus all kinds of currency notes and coins

plus chequing deposits etc. can be regarded
as money
 Kinds of money:

Money

Currency Deposit money Near money

OR Credit money (fixed deposits)

Metallic money Paper money

(Coins) (Currency notes)

Full value Token money Convertible Inconvertible

Or Fait money
 Kinds of money (cont’d):

The following is the main classification of money

1. CURRENCY: The money issued by the govt. as official

medium of exchange is called currency.
It is of two types;

I. Metallic money: Metallic money consists of various

kinds of coins.
 in AFGHANISTAN, coins of one, two and five afs. are
the example of metallic money.

II. Paper money: Paper money includes currency notes

issued by the central or state bank of a country.
 Paper money circulates in the form of notes of 10, 20,
50 etc.
 Kinds of money (cont’d):

 Metallic money is of two types;

I. Full value money: when the face value of a

coin is equal to the value of a metal contained
in the coin, it is called full-bodied money.

II. Token money (Fait money): when the face

value of a coin is greater than the value of
metal it contains, is called token or fait
money.
 Kinds of money (cont’d):

 Paper money can be classified into two:

I. Convertible paper money: This type of

money easily converted into the metallic
money or into the gold, if demanded.

II. Inconvertible paper money: Against such

money, the govt. has no promise to give gold,
even if demanded.
 Kinds of money (cont’d):

2. DEPOSIT MONEY or CREDIT MONEY:

 This is the most modern form of money.

 Demand deposits (current account) in the

banks are called deposit money.

3. Near money: The deposits of the banks which

are not operated through cheques.
 For example; fixed deposits, the govt.
securities, bonds, and saving certificates.
Functions of money:

Functions of money

Primary Secondary Contingent

function function function
Functions of money (primary
functions):

The primary
functions of
Medium of exchange
1 money are;

Unit of account 2

Standard of deferred 3
payments

4
Store of values
 Functions of money (primary funct.):

A. The primary functions of money are as

under:
1. Money as a medium of exchange:
 Money acts as a medium of exchange and
helps in overcoming the difficulty in barter
economy.
 In all market transactions, money is used to
pay for goods and services i.e. the sale or
purchase of goods is done through money.

2. Money as a unit of account:

 Money serves as a common measure of value
i.e. the value of goods and services can be
expressed in terms of unit of money.
 Functions of money (cont’d):

3. Money as a standard of deferred payments:

 Money is used to make payments in the future
time.
 Money is the only unit of account which is
easy to borrow and easy to lend.

4. Money as a store of value:

 Money also functions as a store of value.
 Money is the most liquid of all assets,
therefore it is, easier to store value
(resources) in the form of money.
Functions of money (secondary
functions):

The secondary
functions of
Aid to production
1 money are;

Money facilitates 2
to FOP

Money as a tool of 3
monetary management

Money as a instrument 4
of making loan
 Functions of money (secondary
functions):

B. The secondary functions of money in brief,

are as;

1. Aid to production and trade:

 The market mechanism, production of
commodities and expansion of trade etc.
have all been facilitated by the use of money.

2. Money facilitates to FOP:

 All production takes place for the market and
the factors payments (rent, wages, interest
and profits) are made in money.
 Functions of money (secondary
function……cont’d):

3. Money as a tool of monetary

management:
 All the monetary progress is done due to
money.

4. Money is an instruments of making loans:

 People save money and deposit it in the
banks. The banks advance these savings to
businessmen and industrialists.
 Thus money is the instruments by which
savings are transferred into investments.
Functions of money (contingent
functions):

The contingent
functions of
Distribution of 1 money are;
National income

Basis of credit
2

3
Liquidity of property
 Functions of money (contingent
functions):

C. The Contingent functions of money are as

follows:

1. Distribution of national income:

 Money facilitates the distribution of national
income among the various productive and
non-productive purpose.

2. Basis of credit system:

 Banks create credit on the basis of their cash
reserves.
 Functions of money (contingent
function):

3. Liquidity of property:
 Money gives a liquid form to wealth. A
property can be converted into liquid form with
the use of money.
CH # 1