MONEY

DR. MUHAMMAD IRFAN KHAN

LEARNING OBJECTIVES
1. Describe the meaning of the word money

2. Distinguish among the three primary functions of

money: a medium of exchange, a unit of account,
and a store of value.

3. Illustrate how information technology has paved the

way for e-money, e-banking, and e-commerce.

4. Explain money measurement matters.

OUTLINE OF THE TOPIC
• If you lived in Canada before the creation of the
central bank in 1935, your money might have
consisted primarily of gold and silver coins and
paper notes, called banknotes, issued by private
banks.
• Today you use not only coins as means of payment,
but also cheques, credit cards, debit cards and
electronic cash.
• Money has been different things at different times,
but it has always been important to people and to
the economy.
• To understand the effects of money on the economy,
we must understand exactly what money is.
MONEY DEFINED
• Economists define money as anything that is
generally accepted in payment for goods or
services or in the repayment of debts.

• If, for example, someone comes up to you

and says, “your money or your life”, you
quickly hand over all your currency rather than
ask, What exactly do you mean by money?

• To define money merely as currency is much

too narrow for economists.
MONEY DEFINED
• To complicate matters further, the word money
is frequently used synonymously with wealth.
• When people say, “Ahmed is rich- he has a lot
of money”.
• They probably mean that Ahmed not only has
a lot of currency and a high balance in his
bank account but also has stocks, bonds, four
cars, three houses, and a Farm House.
• Thus while currency is too narrow a definition
of money, this other popular usage is much
too broad.
MONEY DEFINED
• People also use the word money to describe
what economists call income.

• For example, she has a good job and earns a

lot of money.

• For example, one of my friends earn good

amount of income from his small business.
FUNCTIONS OF MONEY
Whether money is shells or rocks or gold or
paper, it has three primary functions in any
economy: as a
• Medium of exchange
• Unit of account
• Store of value
MEDIUM OF EXCHANGE
• In almost all market transactions in our
economy, money in the form of currency or
cheques is a medium of exchange; it is used
to pay for goods and services.
• The use of money as a medium of exchange
promotes economic efficiency by eliminating
much of the time spent in exchanging goods
and services.
• The time spent trying to exchange goods or
services is called a transaction cost.
• Example of a teacher and a farmer
MEDIUM OF EXCHANGE-EXAMPLE
You visit to the Imtiaz Super Store to
buy groceries. You select the items
you want to buy, take them to the
billing counter and then use money,
typically in the form of cash or a
debit/credit card, to pay for your
groceries.
UNIT OF ACCOUNT
• It is used to measure value in the economy.
• We measure the value of goods and services in
terms of money, just as we measure weight in terms
of kilograms or distance in terms of kilometres.
• To see why this function is important, let s look again
at a barter economy where money does not perform
this function.
• The solution to the problem is to introduce money
into the economy and have all prices quoted in terms
of units of that money, enabling us to quote the price
of economics lectures, markers, and movies in terms
of, say, dollars.
UNIT OF ACCOUNT
• We can see that using money as a unit of account
reduces transaction costs in an economy by
reducing the number of prices that need to be
considered. The benefits of this function of money
grow as the economy becomes more complex.
UNIT OF ACCOUNT-EXAMPLE
• When you compare prices of two different products at a store
to determine which one offers better value.
• For example, you are looking for a new smartphone. While
visiting the Imtiaz Shopping Mall, you visit an electronics store,
and you see two different models:
Model A is priced Rs.70,000
Model B is priced Rs. 80,000
• Money (in the form of Rupees) serves as the unit of account,
providing a common measure of value for both products.
• You can easily compare the prices of the two smartphone
models and determine that Model A is less expensive than
Model B by Rs.10,000.
• By using money as a unit of account, you can make an
informed decision about which smartphone offers better value
based on the price difference.
STORE OF VALUE
• It is a repository of purchasing power over time.
• A store of value is used to save purchasing power
from the time income is received until the time it is
spent.
• This function of money is useful because most of us
do not want to spend our income immediately upon
receiving it but rather prefer to wait until we have the
time or the desire to shop.
• Money is not unique as a store of value; any asset,
whether money, stocks, bonds, land, houses, art, or
jewellery, can be used to store wealth.
• If these assets are a more desirable store of value
than money, why do people hold money at all?
STORE OF VALUE
• The answer to this question relates to the important
economic concept of liquidity, the relative ease and
speed with which an asset can be converted into a
medium of exchange.
• Money is the most liquid asset of all because it is the
medium of exchange; it does not have to be
converted into anything else in order to make
purchases.
• Other assets involve transaction costs when they are
converted into money.
STORE OF VALUE-EXAMPLE
• When you open a savings account at a bank to save
money for future needs or investments.
• Money, in the form of a bank deposit, serves as a
store of value as it permits you to preserve and
potentially increase your wealth over time.
• While the value of money may be subject to inflation
and fluctuations, the profit earned on the savings
account helps offset these effects, making it a
relatively stable and secure way to store and grow
your money for future use or emergencies.
PAYMENT SYSTEM
• We can obtain a better picture of the functions of
money and the forms it has taken over time by
looking at the evolution of the payments system,
the method of conducting transactions in the
economy.

• The payments system has been evolving over

centuries, and with it the form of money.
TYPES OF MONEY

• Commodity Money: that has intrinsic value

like precious metals, cattle, grain
• Fiat Money: no intrinsic value like paper
currency
• Cheques: an instrument to transfer money
• Electronic Payment: electronic transfer of
money
• E-Money: money that exists only in electronic
form.
CHARACTERISTICS OF MONEY
• The first forms of money were very simple.
In other countries, tobacco, wooden coins,
and receipts from cotton warehouses were
used for money.
• These early forms of money lacked the
flexibility and widespread acceptability of
current money.
• In order for something to be used for
money, it must meet the following
characteristics:
CHARACTERISTICS OF MONEY
• Durability: Money should be able to stand up under
constant use.
• Portable: Money needs to be small enough so it can
be conveniently carried in clothes, pockets, or
purses.
• Divisibility: Money must be made in various units.
You should be able to make change.
• Uniformity: Every note and coin of the same value
needs to look the same.
• Acceptable: Money needs to be easily
recognizable.
• Relative Scarcity: Money needs to be hard to
manufacture.
MEASUREMENT OF MONEY
M1: currency in circulation and money in bank
accounts.

M2: M1, plus savings deposits, time deposits

(like certificates of deposits), and non-
institutional money market mutual funds.

M3: M2 plus time deposits, institutional money

market mutual funds, term repurchase
agreements.
 MEASUREMENT OF MONEY-QUESTION
If you are out shopping for clothes and books, what is easiest and most
convenient for you to spend: M1 or M2? Explain your answer.
For the following list of items, indicate if they are in M1, M2, or neither:

• Your Rs.5,000 line of credit on your Bank credit card

• Rs.100 in in your pocket
• 1200 in your checking account
• 2000 you have in a money market account
 MEASUREMENT OF MONEY-QUESTION
If you are out shopping for clothes and books, what is easiest and most
convenient for you to spend: M1 or M2? Explain your answer.
For the following list of items, indicate if they are in M1, M2, or neither:

• Your Rs.5,000 line of credit on your Bank credit card (Neither M1 or M2)
• Rs.100 in in your pocket (M1 and M2 both)
• 1200 in your checking account (M1 and M2 both)
• 2000 you have in a money market account (M2)
MEASUREMENT OF MONEY-QUESTION
• Transfer your money from a bank account to
mutual funds.
• Transfer of money by a corporation from its
bank account to mutual funds.
• Transfer your money from one bank account
to another bank account.
• Repurchase agreement by a bank with a
dealer.
QUESTIONS TO ANSWER
Which of the following three expressions uses
the economists definition of money?
a) How much money did you earn last week?
b) When I go to the store, I always make sure
that I have enough money.
c) The love of money is the root of all evil
QUESTIONS TO ANSWER
There are three goods produced in an economy by
three individuals:
Goods Producers
Apples Orchard Owner
Bananas Banana Owner
Chocolate Chocolatier
If the orchard owner likes only bananas, the banana
grower likes only chocolate, and the chocolatier likes
only apples, will any trade among these three persons
take place in a barter economy? How will introducing
money into the economy benefit these three producers.
Questions
from
students