Historically speaking, currency has started wars and even prevented them from happening. It has ruined some empires and built others as they amassed wealth. But it wasn’t always this way. Initially, as far back as 3,000 years ago, many societies used the barter system to exchange one set of goods with a certain value for another. Next up, coins were introduced onto markets to replace a one set of goods with the underlying assumption that the coins were legal tender that had value.
Then, around 1,000 B.C., the Chinese issued the first paper money as it is known today. While it didn’t initially take off throughout the world and there were some levels of mistrust around it, it did eventually after the Dark Ages in Europe, come to gain prominence as an important means of exchange. But what is currency and what functions does it perform? We take a closer look.
What is a currency?
If you’re looking for a currency definition, the very short answer would be that currency equals money. But what exactly is money? We all know about the paper money and coins that we use today. There’s even electronic money that we speak of and use, especially with Internet banking and cryptocurrencies. We use money to pay for a cup of coffee, put petrol in the car, settle bills, entertain ourselves and so much more. Therefore, money inherently is not only a unit of purchasing power but it is also a representation of value.
Some argue that money performs three basic functions. These are that it is a unit of account, a store of value and a medium of exchange. In practically all cases around the world, money is issued by individual governments. Whereas some peg the value of their money on the US dollar, others have their own value such as the euro or pound. This value is determined by complex market mechanisms. Hence, the currency meaning can be equated to money. So, let’s explore this and the function it serves in our societies today.
As mentioned above, currency is basically money. But what is money exactly? In short, it is a means of exchange for goods and services. You pay a given amount of money and you can walk away with your cup of coffee without facing any legal consequences. In addition to this, however, money is a way of accumulating wealth. The four main types of money are:
- Commodity currency
- Paper money
- Electronic money
Controlling the money supply and inflation
The money supply is how much money is circulating in an economy or country at a given point in time. This may seem like a vague concept to understand, and also a complex one because it is difficult to measure precisely how much money is circulating in our complex societies with trade taking place every minute of every day. Yet, let’s look at a quick example. If you speak to your grandparents, you’ll often hear them saying “Back in my day, I could see a film for $0.10”. Now, the price of a movie ticket can be something like $20.00, depending on where you are.
This rise in prices and the devaluing of money is referred to as inflation. One Roman emperor devalued the coins in circulation by flooding his market with them, so much so that it led to his downfall. This is just a very short example of how controlling the money supply and inflation go hand in hand. But also how important they are for the stability of our economies.
The gold standard
We mentioned earlier that money is related to value. This value is often not real but perceived. In fact, Nobel Prize-winning economist Milton Friedman has previously said that “the pieces of green paper have value because everybody thinks they have value.”
Nevertheless, money in the last century and even prior to that was pegged to the gold standard. That meant that for every piece of paper money or coin out on the market, there was sufficient gold backing it up. However, in 1971, the US left the gold standard and this was followed by numerous other countries, which means that the value of money is now determined by different, more complex and more sophisticated ways than simply pegging it at the value of gold.
Because our world is so highly globalised, trade across borders happens on a daily basis and money or currency is an important means of exchange, playing a crucial role in how goods are delivered and their perceived value in the target market. This is where exchange rates come in. One dollar and one yen do not have the same worth. This is why exchange rates are used to determine one currency’s value against the other.
While some currencies exhibit more stability than others, one thing is certain. And that is that money is valued differently across the world, depending on the country.
And as a final point we’d like to leave you with here, we’d also like to mention that money and exchange rates are not only crucial for trade but also for tourism. You’ve probably seen many tourists going to the exchange desk at an airport trying to exchange their dollars for the local currency. This is because in most cases, that local currency is the legal tender of exchange in that country. Although some countries, such as Zimbabwe, for example, use the US dollar in addition to its own currency, most countries have their own.
Money may seem simple to understand at first. After all, we all use it and are all familiar with what it can give us. However, the closer you look at money, the more complicated the picture becomes. This is because its value and supply in a given market differs from country to country and this means that not only are certain mechanisms needed to “control” it so that we do not face stagflation, deflation or inflation but to ensure stability and a level of predictability in our daily lives to minimize painful monetary disruptions.