Money has been around almost as long as we have. It’s evolved from a simple system of exchange to a guiding element of almost every action we make. In this timeline we cover all types of money.
What is money?
Money is an essential medium of exchange that can take many forms. Whether money is represented by a bead, metal coin, paper note, or string of code generated by a computer, its value is not determined by its form. The value of all money is determined by the importance other people place on it as a tool of exchange.
Money is primarily used as a medium of exchange, unit of measurement, and a storehouse for wealth. Totaling the many uses and forms of money, the entire global wealth count was estimated by Credit Suisse to be $463.6 trillion at the end of 2022.
The term money may be interchanged with the word currency. Some people use currency to refer to a more tangible concept of money, like paper notes or debt contracts, but the terms are generally used to mean the same thing.
Money has long been an integral part of human civilization. As we’ve advanced, money has also become a complex instrument to help us navigate and structure our world. In the rest of this article, we dive into the history of money and how it has evolved with our needs over thousands of years.
When was money invented?
The concept of money has been around for thousands of years, so its invention is difficult to pinpoint. There is evidence of money being used in ancient civilizations in Mesopotamia and Egypt, where they used clay tablets to record debts and transactions. However, the first physical forms of money are believed to have emerged in China around 1000 BC in the form of cowrie shells as currency.
How long has money been around?
Money has been around for at least 5,000 years, with the earliest forms being in the form of commodities such as shells, salt, and livestock. Over time, the concept of money evolved, and new forms of currency were introduced.
Earliest form of money: the barter system
The earliest form of money existed only as a concept through the practice of bartering. In a barter system, people exchange goods and services directly without the medium of money. When bartering, two parties must agree on a fair exchange rate of goods and services. For example, one person might trade two chickens for a new pair of sandals or a bag of rice.
Barter systems have many limitations. For a successful barter, you must find someone who has the exact thing you need and is willing to trade it for something you can provide. If there is more than one person who is willing to barter, there is no way to standardize the value of a barter. One cobbler may demand three chickens for a pair of shoes, while another cobbler in a neighboring town may only want one chicken in exchange for a similar pair of shoes.
The cost of traveling one town over for a better exchange rate adds another element to bartering, especially if you’re already in need of new shoes. To better quantify the costs of various goods and services, people began using commodity forms of money.
Commodity money is the first tangible form of currency. Popular types of commodity money include salt, shells, beads, or other valuable items that could not easily be reproduced. With the development of commodity money, a person no longer needed to find someone who wanted to enter a one-for-one barter. Instead, they could exchange commodity money for a good or service, and the person paid was then able to use the commodity money they received for any future transactions.
As societies became more complex, people began using precious metals like gold and silver as commodities. These precious metals were harder to come by and more difficult to produce than previous commodity monies. They were also durable and held inherent value depending on the metal’s properties. The use of precious metals as commodity money eventually gave way to coin minting.
Gold and silver trading
As we’ll see later with representative money, gold and silver will continue to play a large part in the value of currencies despite moving further from commodities towards paper money. In fact, many people still speculate on the value of precious metals today through trading gold and silver.
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Coin minting is the formation of metal currency produced to a standard weight and size. Coin minting first began in 600 BC Lydia, a kingdom in ancient Greece. The uniformity of metal coins made money much easier to carry and trade while also reducing the risk of fraud. They also allowed for a divisional table of coins, where one coin equals the value of five less coins, and so on.
Coin minting marked a significant moment in the history of money. No longer was the value of money derived just from the object of exchange. Instead, money began to represent a value ascribed to it by the government issuing the coins.
Representative money was developed as an easier way to conduct financial transactions without having to always carry weighty coins. Representative money is often printed on paper and represents something of value without holding intrinsic value.
Unlike the next form of money, fiat, representative money has a direct tie to a commodity or other physical asset with a tangible measure of value supporting the face value of representative money.
The gold standard is an example of representational money used throughout many countries in the 19th and early 20th centuries. It linked a country’s currency to the value of gold, backing each unit by a specific amount of gold. This system directly ensured the value of paper currency notes. As more countries adopted the gold standard, it also provided an easy exchange rate among countries and helped keep inflation in check by preventing any sharp changes in value.
However, the demand for more money eventually outstripped the supply of gold. To satisfy this change, dozens of countries convened to establish the Bretton Woods system. The system was a negotiated monetary order intended to regulate economic relationships between 44 different countries, encouraged by the economic collapse of many countries following World War II. A collective agreement was reached that some new order needed to be established to maintain global economic security. Hence the 1944 Bretton Woods Agreement.
The Bretton Woods Agreement
Countries included in the Bretton Woods system agreed to peg their currencies within 1% of fixed parity rates to the US dollar. The dollar was then backed by bullion gold at a rate of $35 per troy ounce of gold. The countries also established the International Monetary Fund (IMF) to monitor exchange rates and ensure no country’s foreign reserves diminished too low to maintain its set dollar peg.
In the summer of 1971, The US ended the dollar’s fixed conversion rate to gold, effectively ending the Bretton Woods system as well. This converted the US dollar and many other major currencies into fiat money. The IMF still monitors economic health of countries, but it can only recommend policies and facilitate transactions between countries to promote global financial stability.
Fiat money is similar in form to representative money, but instead of being backed by a real commodity, its value is established by the backing of a government. Fiat money holds no intrinsic value, and it can even hold risk when a government is unable to support the value of its fiat money.
The value of fiat currency is determined by floating exchange rates, which rise and fall in response to economic events and manipulation by central banks. This is different to the fixed exchange rates common during the Bretton Woods system.
Floating exchange rates function by changes in supply and demand of other currencies. In a floating exchange rate, a country’s currency demand is balanced by its international trade to maintain equilibrium in its balance of payments (BoP). You can learn more about the differences between fixed and floating exchange rates here.
The banking system
Central banks and the banking system at large play a huge role in controlling the value of fiat money. Most notably, these banks control interest rates and the money supply to manage how quickly inflation occurs. Inflation is the rate at which prices rise and is generally caused by more workers entering the market and earning higher wages. In a successful economy, a steady level of inflation is expected.
However, inflation too high or too low can cause serious trouble for free-floating fiat currencies. Typically, imbalanced production in one country can create rapid inflation, causing one currency to depreciate against another. If inflation were to skyrocket, foreign goods and services will become cheaper relative to domestic ones. This change influences consumer preferences and causes imports to increase, causing more of that currency to spread among the global forex market.
Crude banking establishments have existed at almost all points in history. As early as 2000 BC, empires in China, India, Assyria, and Greece all set up some type of banks that issued loans and held deposits. But these systems disappeared with the collapse of each empire. Banks as we know them today have only existed since the 16th century. Their functions include holding deposits, exchanging currencies, issuing debts, and practicing fractional reserve banking.
Foreign exchange trading
With the free float of national currencies, traders and investors were able to begin speculating on the future value of currencies. Forex traders buy and sell currencies to take advantage of fluctuations in exchange rates. They study national economies and make trades based on future projections.
Forex trading is the largest financial market in the world, with over $7.5 trillion changing hands every day. It experiences a lot of volatility, giving trades ample opportunities to enter the market. However, the large swathe of factors affecting a currency’s value make forex a complicated market for traders to learn.
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The innovation of fiat money has also allowed for online transactions, as now financial exchanges can be logged digitally through verified financial institutions without physical representations ever changing hands. Digital money is characterized as any money transaction that only takes place electronically, with no physical money being exchanged. Digital money greatly improves the monetary system, allowing for instantaneous transactions across borders and speeding up the implementation of monetary policy through central banks.
Digital money can represent fiat currencies exchanged using credit cards or online banking apps. More often though it is used to describe cryptocurrencies. Cryptocurrencies are decentralized, digital currencies that can be used and speculated on like other currencies.
Cryptocurrencies were first created in 2008 with the introduction of bitcoin, a decentralized currency created by the anonymous founder Satoshi Nakamoto. To be decentralized, bitcoin transactions are recorded on a public blockchain hosted by independent computers around the world. This network of computers individually verifies every exchange made with bitcoin and authenticate legitimate transactions.
There are now tens of thousands of different cryptocurrencies in use with each one various uses and governance depending on who created them. Some cryptos are occasionally ‘burned’ by developers to tighten the supply; others known as stable coins are backed by fiat currencies like the US dollar. Many cryptocurrencies are made for use on their own blockchain to pay for related applications, creating miniature financial ecosystems.
The advantages of digital money have prompted some countries to experiment with cashless economies. Countries like Sweden, China and the Bahamas have all done major research into a national digital currency or eradicating fiat currencies completely. Some brick-and-mortar businesses have also done away with cash payments to dissuade counterfeit bill concerns or potential register hold ups.
There are downsides to cashless societies though. Implementations of such would widen the economic disparity between those with easy access to digital tools and those without. It may also hinder people traveling across countries whose own economies are more traditional. There are also frequent fees associated with digital banking or currency conversions that dissuade some people from going cashless.