Barter System

The direct exchange of one commodity or service for another without the use of money is called “Barter” in economics. Barter system is that in which no money exists. It is money less economy.

Difficulties of Barter System Double co-incidence of wants. Needs matching of wants Small volume of trade. Common measure of value. No common measure of value No medium to measure the value of goods. Tax collection. Taxes collected for economic development. Tax in the form of goods. Difficult for government to spend such goods for development projects.

Store of value Transfer of value Does not provide facilities for storage of wealth. Perishable goods loose value. Increased storage costs. Transfer of value Prohibits transfer of wealth from one place to another. High carriage cost. Movement of land and building is not possible.

Economic measurements. Subdivision Many goods are not divisible. Exchange not possible. Future payments Not possible to lend goods Value may increase or decrease with the passage of time. Economic measurements.

Money Money is any object or record, that is generally accepted as payment for goods and services and repayment of debts. Anything that is generally acceptable in a community in exchange for all other commodities and services. Evolution of money Commodity money: earliest form of money. Skins arrows, cattle, wheat, rice served as money. Metallic money: commodity money replaced by metallic money particularly gold and silver. Coins: coins made of gold and silver served as money. Paper money: with increase in population and expansion of trade next development in the history of money is paper money. Bank deposits: the use of bank demand deposits as money is the final stage in the evolution of money.

Money and currency Currency comes from the word carrier meaning current. Currency refers to the legal tender money which is issued by the Government or the central bank and which is made current in the form of metallic money or paper money by legal force.

Functions of money Money serves as a medium of exchange. It is used to make payments for goods and services. Different goods can be sold in terms of money and this money can be used to purchase other goods. So it acts as a medium of exchange between buyers and sellers. When money is used to intermediate the exchange of goods and services, it is performing a function as a medium of exchange. It thereby avoids the inefficiencies of a barter system, such as the 'double coincidence of wants' problem.

Measure of value Money is used to measure the value of everything in the same way as we can measure weight in Kg and distance in Km. It acts as a standard of value. Goods and services are priced and valued in terms of money. To function as a 'unit of account', ‘or measure of value’ whatever is being used as money must be: Divisible into smaller units without loss of value; precious metals can be coined from bars, or melted down into bars again. Fungible: that is, one unit or piece must be perceived as equivalent to any other, which is why diamonds, works of art or real estate are not suitable as money.

Store of value To act as a store of value, a money must be able to be saved, stored, and retrieved. Be usable as a medium of exchange when it is retrieved.

Secondary functions of money Monetary and fiscal management Money is very important factor of monetary and fiscal policies. Collection of taxes is only possible in terms of money. Income and consumption Income and consumption of different factors of production is determined in terms of money. Money helps in determination, valuation and budgeting of expenses and revenues.

Secondary functions of money Deferred payments/future payments Money has removed the inconvenience of future payments. Now the loans can be taken from banks and financial institutions. The future payments can be stated in terms of money. Economic activities All kinds of economic activities such as investments, savings, credit advances etc are made in terms of money.

Secondary functions of money Parameters of market structure The use of money provides basis of market mechanism. The demand and supply are the two major forces of market which works only because of money. Promote foreign trade Huge foreign investments are made possible because wealth can be transferred from one place to another.

Paper money Most monetary systems include considerable quantities of paper money in addition to metallic money. The term paper money implies to bank notes which pass freely from hand to hand without any difficulty and without question.

Advantages of paper money Cheap and economical. Convenience. Difficult to copy. Elastic supply. Precious metal saving. Ease of counting. Recognizable. Useful in emergency. Uniform quality. Stable in value. Easily portable.

Disadvantages of paper money Demonetization. In case the government cancels the currency notes the holder has to bear the loss. Restricted acceptability. One of the demerits of paper money is that it has limited acceptance. Its acceptance is limited within the boundaries of a country. It cannot be used to make payments to other countries. Monetary mismanagement Purchasing power of paper money is ever-changing process. This means that its face value remains the same but its purchasing power may decline due to monetary mismanagement. Exchange rate instability. The value of paper money is instable and is subject to fluctuations in the exchange rates.

Troubling balance of payments. Over issuance of money results in decrease of value of money and causes inflation. Due to this price of imported goods increases because they are to be paid by exchanging devalued currency for foreign currency which results in unfavourable balance of payments. Short life. Although the paper currency is not affected by wear and tear but it can be damaged due to fire or water. Due to this life of paper currency is much less then the metallic money. Excess issuance. The printing of paper money is quite easy, so in times of need the government can issue notes more then the requirement. As a result supply of money increases which causes inflation in the economy.