The Types of Money

Money can be classified based on whether it has intrinsic value or not.

Commodity money functions as a medium of exchange but also holds value due to its usefulness in other ways—this is referred to as intrinsic value.

For example, gold was once used as money. Even if gold wasn't used to buy things, it still held value. People valued it for other uses, like making jewelry.

However, commodity money like gold could be heavy, making it inconvenient to carry.

Fiat money, on the other hand, has no intrinsic value.

For example, the U.S. dollar notes have no value beyond the printed paper.

Then why does the public accept it as a means of payment and a store of value?

This is because the government decrees it as legal tender.

The U.S. dollar is marked, 'This note is legal tender for all debts, public and private.' This means that the currency must be accepted as legal payment for debts. Additionally, people believe the central bank will manage the money supply responsibly, which reinforces their confidence in accepting fiat money.

One significant advantage of fiat money is that the central bank can expand or contract its supply to suit prevailing economic conditions.