{"id":905,"date":"2015-05-01T21:14:06","date_gmt":"2015-05-01T21:14:06","guid":{"rendered":"https:\/\/courses.candelalearning.com\/masterybusiness1xngcxmaster\/?post_type=chapter&p=905"},"modified":"2015-07-11T04:54:27","modified_gmt":"2015-07-11T04:54:27","slug":"reading-the-functions-of-money","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/wmintrobusinessx51xmaster\/chapter\/reading-the-functions-of-money\/","title":{"raw":"Reading: The Functions of Money","rendered":"Reading: The Functions of Money"},"content":{"raw":"
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The Functions of Money<\/h2>\r\n

So our first question is, what is money? If you happen to have one on you, take a look at a $5 bill. What you\u2019ll see is a piece of paper with a picture of Abraham Lincoln on one side and the Lincoln Memorial on the other. Though this piece of paper\u2014indeed, money itself\u2014has no intrinsic value, it\u2019s certainly in demand. Why? Because money serves three basic functions. Money<\/span><\/span> is the following:<\/p>\r\n\r\n<\/div>\r\n

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  1. A medium of exchange<\/li>\r\n\t
  2. A measure of value<\/li>\r\n\t
  3. A store of value<\/li>\r\n<\/ol>\r\nTo get a better idea of the role of money in a modern economy, let\u2019s imagine a system in which there is no money. In this system, goods and services are bartered<\/em><\/strong>\u2014traded directly for one another. Now, if you\u2019re living and trading under such a system, for each barter exchange that you make, you\u2019ll have to have something that another trader wants. For example, say you\u2019re a farmer who needs help clearing his fields. Because you have plenty of food, you might enter into a barter transaction with a laborer who has time to clear fields but not enough food: he\u2019ll clear your fields in return for three square meals a day.\r\n\r\nThis system will work as long as two people have exchangeable assets, but needless to say, it can be inefficient. If we identify the functions of money, we\u2019ll see how it improves the exchange for all the parties in our hypothetical set of transactions.\r\n
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    Medium of Exchange<\/h3>\r\nMoney serves as a medium of exchange because people will accept it in exchange for goods and services. Because people can use money to buy the goods and services that they want, everyone\u2019s willing to trade something for money. The laborer will take money for clearing your fields because he can use it to buy food. You\u2019ll take money as payment for his food because you can use it not only to pay him but also to buy something else you need (perhaps seeds for planting crops).\r\n\r\nFor money to be used in this way, it must possess a few crucial properties:\r\n
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    1. It must be divisible<\/em>\u2014easily divided into usable quantities or fractions. A $5 bill, for example, is equal to five $1 bills. If something costs $3, you don\u2019t have to rip up a $5 bill; you can pay with three $1 bills.<\/li>\r\n\t
    2. It must be portable<\/em>\u2014easy to carry; it can\u2019t be too heavy or bulky.<\/li>\r\n\t
    3. It must be durable<\/em>. It must be strong enough to resist tearing and the print can\u2019t wash off if it winds up in the washing machine.<\/li>\r\n\t
    4. It must be difficult to counterfeit<\/em>; it won\u2019t have much value if people can make their own.<\/li>\r\n<\/ol>\r\n<\/div>\r\n
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      Measure of Value<\/h3>\r\nMoney simplifies exchanges because it serves as a measure of value. We state the price of a good or service in monetary units so that potential exchange partners know exactly how much value we want in return for it. This practice is a lot better than bartering because it\u2019s much more precise than an ad hoc agreement that a day\u2019s work in the field has the same value as three meals.\r\n\r\n<\/div>\r\n
      \r\n

      Store of Value<\/h3>\r\nMoney serves as a store of value. Because people are confident that money keeps its value over time, they\u2019re willing to save it for future exchanges. Under a bartering arrangement, the laborer earned three meals a day in exchange for his work. But what if, on a given day, he skipped a meal? Could he \u201csave\u201d that meal for another day? Maybe, but if he were paid in money, he could decide whether to spend it on food each day or save some of it for the future. If he wanted to collect on his \u201cunpaid\u201d meal two or three days later, the farmer might not be able to \u201cpay\u201d it; unlike money, food could go bad.\r\n\r\n<\/div>\r\n
      \r\n

      The Money Supply<\/h2>\r\nNow that we know what money does, let\u2019s tackle another question: How much money is there? How would you go about \u201ccounting\u201d all the money held by individuals, businesses, and government agencies in this country? You could start by counting the money that\u2019s held to pay for things on a daily basis. This category includes cash<\/em> (paper bills and coins) and funds held in demand deposits<\/span><\/span>\u2014checking accounts, which pay given sums to \u201cpayees\u201d when they demand them.\r\n\r\nThen, you might count the money that\u2019s being \u201csaved\u201d for future use. This category includes interest-bearing accounts, time deposits<\/em> (such as certificates of deposit<\/em>, which pay interest after a designated period of time), and money market mutual funds<\/span><\/span>, which pay interest to investors who pool funds to make short-term loans to businesses and the government.\r\n
      \r\n

      M-1 and M-2<\/h2>\r\nCounting all this money would be a daunting task (in fact, it would be impossible). Fortunately, there\u2019s an easier way\u2014namely, by examining two measures that the government compiles for the purpose of tracking the money supply: M-1 and M-2.\r\n