Basic Concepts of Money: Features, Functions, & Types Of Money

Money is anything that is generally accepted as a means of payment in settlement of all transactions.

It can be paper currency, coins, cheques, bank deposits, crypto currency etc.

Features of Money

Acceptability

Everyone must be able to exchange the money for goods and services.

Durability

Objects used as money must withstand physical wear and tear.

Portability

People need to be able to take money with them as they go about their business.

Divisibility

To be useful, money must be easily divided into smaller denominations, or units of value.

Uniformity

Any two units of money must be uniform or same in the terms of what they will buy.

Limited Supply

Money must be available only in limited quantities.

Functions of Money

Primary Functions

Primary Functions are the most important functions of money, these are:

1. Medium of Exchange:

Because of its general acceptability, money serves as a ‘common medium’ of exchange.

It provides general purchasing power to the money holders ie. People can directly buy goods and services from the market without having to convert money into anything else.

This function has removed the major difficulty of lack of double coincidence of wants associated with barter system.

It allows purchase and sale to be conducted independently of each other.

2. Measure of Value (Unit of Account):

Money serves as a common measure of value (or common denomination) in terms of which values of all goods and services are expressed.

This makes meaningful accounting systems possible by adding up values of wide varieties of goods and services, whose physical quantities are measured in different units.

This allows for direct comparison between prices of different commodities and determining
their exchange ratios.

Secondary Functions

These functions are derived from primary functions and, therefore, they are also known as ‘Derivative Functions’.

1. Standard of Deferred Payments

It serves as a standard or unit for the settlement of future monetary obligations.

This applies to payment of interest, rent, salaries, pensions etc. It has simplified the borrowing and lending operations.

Money, through this function, helps in capital formation and economic development of the economy.

2. Store of Value

Money is a way to store wealth i.e. money is an asset.

Money can be used to transfer purchasing power from present to future.

This function is derived from the use of money as a medium of exchange.

Types of Money

Full bodied money

It is the type of money whose commodity value is equal to the money value.

For example, the market value of the silver/copper contained in the coin being equal to the face value of the coin.

Token Money

It is the type of money whose money value is more than the commodity value.

For example, paper note of Rs. 2000, its money value is far more than the cost of the paper used to make the currency.

Representative Full Bodied Money

It is a type of token money, issued against the backing of equivalent value of bullion (precious metal) with the issuing authority.

Fiat Money

It is the money which is issued by the order/authority of the government.

This includes the money that people in a country are legally bound to accept.

Fiduciary money

Fiduciary money is the money which is accepted as a medium of exchange because of the trust of the payer and the payee.
For example, Cheques or cryptocurrencies are accepted based on trust, rather than by order of the
government.

Legal Tender Money

Legal tender is any official medium of payment, recognized by law, that can be used to meet a financial obligation.

It is the money which can’t be denied in the settlement of a monetary obligation.

All coins issued under the authority of Section 6 of The Coinage Act, 1906, are be legal tender.

All banknotes issued by RBI under RBI act, 1934 are legal tender.

Limited legal tender : Compulsory to accept only up to certain extent e.g. In India, coins function as limited legal tender. Therefore, 50 paise coins can be offered as legal tender for dues up to ₹10.

Unlimited Legal Tender : Any amount of obligation can be discharged with it. In India, currency notes are unlimited legal tender.

Point to Note: Bitcoin is money (medium of exchange), but NOT legal tender.