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
B
Lack of bauble
coincidence of
wants
Difficulties in
tax collection
A
C
Lack of store of
values
Difficulties
In Barter
system
E
D
Payments in
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
Deposit money
OR Credit money
Currency
Metallic money
(Coins)
Full value
Near money
(fixed deposits)
Paper money
(Currency notes)
Token money
Or Fait money
Convertible
Inconvertible
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
function
Secondary
function
Contingent
function
Functions of money (primary
functions):
Medium of exchange
Unit of account
The primary
functions of
money are;
1
2
Standard of deferred
payments
Store of values
3
4
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):
Aid to production
The secondary
functions of
money are;
1
Money facilitates
to FOP
2
Money as a tool of
monetary management
3
Money as a instrument
of making loan
4
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):
Distribution of
National income
The contingent
functions of
money are;
1
Basis of credit
2
Liquidity of property
3
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