I. Basics

Money is a part of everyone's life, and we all want it, but do you know how it gains value and how it is created? Check out the following link for more:

The following page will prime you for the topics discussed in this chapter:
What Is Money?

What Are the Functions of Money?
Money has three basic functions.

  • It acts a medium of exchange. If money did not exist, we would have much more complicated lives. If you wished buy bananas, you would need a barter arrangement where another party valued something you had and could also provide you with bananas. Anything can serve as money (ie. Coins, cigarettes, shells) as long as someone else will accept it as a medium of exchange.
  • Money is a way to store value. Although many things (land, gold, etc.) can serve as a store of value, money has one large advantage in the sense that it can quickly be converted into other goods. One problem with using money as a way to store value is that some forms of money do not pay interest. Another problem is that inflation destroys the value of money over time.
  • Money is also used as a unit of account. The values and costs of goods, services, and assets can be expressed as a unit of money. Prices expressed as money are used to help consumers make choices among numerous goods and services.

What is the Money Supply?
The supply of money is the amount of money available in a country; it is measured in many ways. The two most frequent ways to measure money are referred to as M1 and M2.

M1 is the narrowest definition of the money supply. It includes:

  • cash (currency) in circulation
  • checking accounts (demand deposits) - both non-interest earning and interest-earning
  • travelers' checks

M2 includes:

  • all components of M1
  • money market mutual funds
  • deposits in savings accounts
  • time deposit of less than 100K at depository institutions (banks, credit unions, savings and loans)

Using Commodities as Money
Problems that arise when using commodities include requiring a double coincidence of wants (does the person you want food from want your cigarettes?) and the difficulties in making price comparisons.

Look Out!
Within the context of our discussion, "Money" means anything that can be used in exchange for goods or services. It is not referring to currency (in the form of coins, dollar bills, debit cards, etc.) that modern societies use every day to purchase goods and services.


The Banking System

Related Articles
  1. Insights

    What is Money?

    Money: It's a part of everyone's life, and we all want it, but do you know how it gains value and how it is created?
  2. Insights

    What Part of the Money Supply is M2?

    M2 is the part of the money supply economists use to analyze and predict inflation.
  3. Investing

    Understanding Money Supply

    Money supply – also called money stock -- refers to the total amount of currency and other liquid financial products in an economy at a particular time.
  4. Insights

    Understanding How the Federal Reserve Creates Money

    Read about how the Federal Reserve actually targets and creates new money in the economy, and find out why the savings and loans system magnifies this process.
  5. Retirement

    Introduction To Retirement Money Market Accounts

    Money market funds are used in retirement plans and accounts because they are liquid, stable and pay competitive rates of interest.
  6. Investing

    Why Money Market Funds Break The Buck

    These funds are noted for their safety in a rough market. Read on to find out why.
  7. Trading

    How Do Central Banks Inject Money Into The Economy?

    Central banks inject money into the banking system, and remove money from it, through monetary policy actions.
Frequently Asked Questions
  1. What is arbitrage?

    Arbitrage is basically buying a security in one market and simultaneously selling it in another market at a higher price, ...
  2. What is the difference between upstream and downstream oil and gas operations?

    The closer to the end user a function or firm is, the further downstream it is said to be. Raw material extraction or production ...
  3. What is the difference between a capital expenditure and a revenue expenditure?

    Capital expenditures represent major investments of capital that a company makes to expand its business and generate additional ...
  4. What is the difference between revenue and income?

    Revenue is simply the total amount of cash generated by the sale of products or services associated with the company's primary ...
Trading Center