It is important to understand the history of our monetary system in order to understand how our current financial system came into existence. You will see money is subject to many changes, and what society now perceives as ‘money’, can be completely different tomorrow. Money is a continuously evolving process. In this series, this subject will be exposed on the basis of a weekly article. In this week’s subject: ‘What is Money?’.
What is money?
The definition of money is complex. Countless books have been written about it. A lot of different materials have been used as money in the past. From shells and salt to scarce precious metals and paper notes.
Money has three different functions regardless of its form. First, money can be used as means of exchange – a means of payment with value in which everyone (read the largest part of society) has confidence. In any case, enough confidence the same amount of services and products can be bought with practically the same amount of money. Second, money is a unit of account with which the price of goods and services can be determined. Last, money is a store of value. (ECB, 2015)
Economist Karl Polanyi, known for his heterodox views and his studies of economic phenomena in their social, cultural and historical context made a distinction between “general purpose” and “special purpose” money (Ravies, 2016). The conditions in which “general purpose” must be met according to Polanyi are: portability (easy to transport), divisibility (easy to divide into smaller denominations), convertibility (easily exchangeable), generality (generally accepted), anonymity (used without the owner having to identify himself) and legality (the guarantee of value by a government agency) (Ravies, 2016). Questions can be raised about whether the last two conditions, anonymity and legality actually are a requirement of money. The digital fiat money you see on your bank account is not anonymous at all. Banks must meet their Know your Customer (‘KYC’) policy. They know exactly from whom the money is and where it came from. This in contrast to cash money. In addition, we have noticed money does not necessarily have to be issued by governments to serve as a means of payment.
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It is important to understand the history of our monetary system in order to understand how our current financial system came into existence. You will see money is subject to many changes, and what society now perceives as ‘money’, can be completely different tomorrow. Money is a continuously evolving process. In this series, this subject will be exposed on the basis of a weekly article. In this week’s subject: ‘The History of Money’.
The History of Money
In ancient times, long before Bitcoins, euros and dollars were in circulation, people exchanged goods to provide for their living. One of the first payment methods used was salt. Salt was a precious product because food could be stored in it. In the Roman Empire, soldiers were paid in ‘sal’, the Latin word for salt. The word ‘salary’ owes its existence to this form of wage. Civilizations in Africa and Asia used feathers, shells, beads and teeth of animals as a means of payment. (From salt to Bitcoins, means of payment through the years, 2018)
Over the course of history, three independent currency traditions have emerged in the world:
The Chinese tradition
Around 770 BC. the first Chinese money was manufactured. At that time money consisted mainly of bronze molded models of knives and spades with Chinese characters on them. This started with the use of ‘kèpèngs’, round bronze coins with a square hole in it to tie a rope through them. These coins were often traded per string due to the small value of the individual coins. These ‘kèpèngs’ were minted by the government for circulation until 1912. Today they are mainly seen as lucky coins. (Ravies, 2016)
The Indian tradition
Independent of other cultures, the first coins in India were minted around the year 500 BC. At that time, it were mainly slices of silver with small stamps representing plants, animals and other figures. Up to about 100 BC. Greek- (by Alexander the Great) and later also Roman cultures gained strong influence on Indian coins. (Ravies, 2016)
The Western tradition
Spread from Asia, the first European coins were manufactured around approx. 700 BC. Many coins were made from a mixture of precious metals. Often a symbol of the city or castle was burnt or carved on the coin. In the 6th century, this use spread into the Persian Empire and the Greek world. This resulted in a strong efficiency drive in trade. (Ravies, 2016)
The first country in the world which realized heavy coins are not at all useful for transport on trade trips and switched to paper money on a large scale was China. The first paper money was printed with which payments could be made from the 7th century onwards. These were a kind of certificates. These certificates were registered so that people did not have to worry about being deprived. In Europe people only began to use paper money in 1661. (From salt to Bitcoins, means of payment through the years, 2018). Paper money is in fact fiduciary money. Money that does not derive its value from a commodity, and therefore has no intrinsic value. The money only derives its value from trust in the solvency and integrity of the eminent. When this trust is lost, the money is worth nothing. The word ‘fiat’ comes from Latin and means ‘Let it be so’. (Galbraith, 1975)
In England, a different system had been conceived. Certificates were printed that represented a certain amount of gold. People received a ticket called the ‘goldsmith note’. This indicated the value of the amount of gold that they possessed. As you can already guess, more notes were issued at that time than there was gold in custody at the goldsmiths. In the eyes of some, this is one of the first modern forms of credit. For this reason, the first central bank in the world was established, in 1694. The bank guaranteed the amounts printed on the banknotes. (From salt to Bitcoins, means of payment through the years, 2018)
Over the centuries, more countries decided to set up a central bank. First to act as trusted middlemen and to guarantee that the paper money was covered by gold, later central banks were given more powers and tasks such as conducting monetary policy, promoting payment transactions, circulating base money and supervising financial institutions With the help of the external reserves of central banks, it is ensured that central banks are sufficiently liquid to carry out foreign exchange operations where necessary. The objectives for the management of the foreign reserves of the most central banks are, starting with the most important: liquidity, security and returns. The external reserve portfolio of central banks consists mainly of American dollars, Japanese yen, Chinese renminbi (CNY), gold and special drawing rights. The composition of the portfolio changes with time and reflects changes in the market value of the assets invested, as well as the currency and gold transactions of the central banks. A lot can be said about reserve currencies. In the history of mankind there have been many world reserve currencies. The US dollar has been the currency of the world for decades, because the United States is an economic world power and many commodities such as oil and gold are listed in this currency. This does not mean, however, that the US dollar will remain the world’s largest reserve currency forever. In our opinion, it will not take long before central banks include Bitcoin in their portfolios.