Next video:
Loading the player...

Fiat money is any legal currency that is not backed by a physical commodity, nor does the material it is made of have significant value. The currency’s stated value exists because of government decree. Hence the name “fiat,” which comes from Latin and means, “It shall be.” A currency that is fiat money maintains its value from the stability of the government and economy it belongs to—and through intelligent management of money supply by a central bank.

Virtually all paper currencies in the world today are fiat money, along with most coin currencies. However, in previous centuries, most currencies were representative currencies, meaning they were backed by gold or silver.

With representative currencies, each unit of currency represented an equal amount of gold or silver held by the central government. A government could theoretically only create as much currency as it had gold or silver in its vaults. In those days, a person could take currency, such as a dollar, to a bank and demand a dollar’s worth of gold in exchange. This is called convertibility.

Though fiat money has been used periodically around the world since roughly the year 1000, it didn’t become the norm until 1971, when U.S President Nixon declared that the U.S. dollar was no longer convertible into gold.

Because fiat money cannot be redeemed for gold, it risks losing value due to inflation. Inflation happens when a government produces too much paper currency, and its value drops quickly.

Related Articles
  1. Investing

    How Gold Affects Currencies

    There is a strong correlation between gold's value and the strength of currencies trading on foreign exchanges.
  2. Investing

    Will the Yuan Become an International Reserve Currency?

    Although still a matter of when, China is likely to reach a significant milestone when the International Monetary Fund decides to include the Chinese yuan in its special drawing rights basket ...
  3. Investing

    Why Gold Is No Longer the Currency King

    Although a gold standard seems like a good idea, looking at its role in U.S. history reveals that it may not be the beacon of stability that it claims.
  4. Insights

    How Currency Works

    Currency offers key advantages over economies based on direct trade. It provides sellers with a broader market for their goods and services. It is also a durable asset for people to accumulate ...
  5. Insights

    The Go-To Currency In 50 Years

    Discover why the euro will likely become heir to the currency throne.
  6. Investing

    The Midas Touch For Gold Investors

    Find some golden opportunities by investing in gold commodities or futures contracts.
  7. Investing

    Does it Still Pay to Invest in Gold?

    This asset's appeal dates back thousands of years. Find out whether it can live up to the hype.
  8. Investing

    Why Countries Keep Reserve Currency

    Central banks and financial institutions hold large amounts of foreign money as their reserve currency.
  9. Trading

    Forex: World's Biggest Market A Relative Newcomer

    Unlike the stock markets, the forex market is a truly new market. We’ll take a brief look at its origins and how it works today.
  10. Investing

    Is Now the Right Time to Buy Gold Mining Stocks?

    Examine the current case for buying gold stocks, and learn the reasons why gold and mining stocks may be set to begin a new rally in the near future.
Hot Definitions
  1. Turkey

    Slang for an investment that yields disappointing results or turns out worse than expected. Failed business deals, securities ...
  2. Maintenance Margin

    The minimum amount of equity that must be maintained in a margin account. In the context of the NYSE and FINRA, after an ...
  3. Salvage Value

    The estimated value that an asset will realize upon its sale at the end of its useful life. The value is used in accounting ...
  4. Cryptocurrency

    A digital or virtual currency that uses cryptography for security. A cryptocurrency is difficult to counterfeit because of ...
  5. Promissory Note

    A financial instrument that contains a written promise by one party to pay another party a definite sum of money either on ...
  6. SEC Form 13F

    A filing with the Securities and Exchange Commission (SEC), also known as the Information Required of Institutional Investment ...
Trading Center