FUNCTIONS OF MONEY

Unit III
INTRODUCTION:
Paul Einzing classifies the functions of money into two
broad categories – static and dynamic.
In its static sense, money is used as a passive technical
instrument of exchange devised to overcome the
difficulties of barter so as to ensure a better operation of
the economic system.
By its dynamic function, money works as a determining
force in moulding the functioning of the economic
system and setting a particular economic trend.
In a static sense, as a passive technical
device, money serves as:
•A medium of exchange
•A measure of value or unit of account
•A store of value
•A standard of deferred payments and
Money as a medium of exchange:
• The fundamental role of money in an economic system is to
serve as a medium of exchange or as a means of payment. On
account of its general acceptability, as a medium of payment,
money has ready purchasing power and becomes a circulating
medium. Being a generally acceptable medium of exchange,
money facilitates the multiple exchange of goods and services
with minimum effort and time.
• Inorder that it becomes a good circulating medium, money
should possess certain attributes such as uniformity, durability,
portability, divisibility and general acceptability.
• Uniformity or homogeneity characteristics facilitate
money’s universal acceptability as a means of
payment.
• Its durability confers on money its role of purchasing
power.
• Its portability is desired for convenience of making
transactions
• Its divisibility facilitates the smooth operation of small
and big transactions and
• Its general acceptability generates public confidence in
money.
Money as a unit of account:
Money conventionally as well as technically acts as a unit of
account or numeraire. In a monetised economy, where money is
the medium of exchange, money can be treated as a common
measure or common denominator of value. Such an expression
gives rise to the price system. Money, in fact, acts as a means of
calculating the relative prices of goods and services. In this sense,
it has been regarded as a unit of account.
Money, as a unit of account is only a mode of expression and does
not necessarily have physical substance. In other words, the unit
of account is something abstract, while medium of exchange is
concrete.
Money as a store of value:
Money acts as an efficient store of value. The function of money
as a medium of exchange makes it a convenient asset to hold.
Holding money enables a person to avoid the time and effort
which would otherwise have to be involved in synchronising
market exchanges. Money being a permanent abode of
purchasing power holds command over goods and services at all
times- present as well as future.
Money, in fact, is held to bridge over the gap between income
and its expenditure. As a such money is a link between the
present and the future. It serves as a store of value because it has
purchasing power and its exchange utility can be used at any
time. The holder of money is empowered to spend it at his will.
Money as a standard of deferred payments
Money serves as a standard of deferred payments. It is a unit in
terms of which debts and future transactions can be settled. The
functions of money as a medium of exchange and a store of value
enable it to serve as a standard of deferred payment or future
payment.
The existence of money in a modern economic society has
enabled people to effectuate widescale credit transactions. In
fact, the edifice of modern commerce and trade is built on the
citadel of credit, which rests on the foundation of money as a unit
of account and a standard of deferred payments. In the process,
money credit has brought dynamism to the modern economic
life.
DYNAMIC ROLE OF MONEY:
• On account of its static or technical functions,
money tends to play a dynamic role in
determining economic trends.
• Being an essential part of modern exchange
mechanism and the market economy, money is
surely productive, in the sense that it is an aid to
specialisation and production in a capitalist
system.
Money as an encouragement to division of labour
• Use of money makes exchange process efficient an
quick. Due to the smooth exchange system and market
mechanism created by the use of money, the need to
produce all goods which one may require is eliminated.
• In short, in a monetised economy, different persons tend
to specialise in the production of different goods and
through the marketing process, these goods are bought
and sold for the satisfaction of multiple wants. In this
way, occupational specialisation and division of labour is
encouraged by the use of money.
Money smoothens the transformation of savings into investment
• In a modern economy, savings and investments are effected by two distinct
sets of people: households and business firms. Households save and
business firms invest.
• Money transmutes real resources into liquid form. Savings in terms of
money can be easily mobilised. Households can lend their savings to
business firms. The mobilisation of savings can be effectuated through the
working of various financial institutions: banks and non-banking financial
intermediaries.
The use of money as a means of deferred payment has given birth to
credit transactions – lending and borrowing – as a consequence of which the
money market and capital market have developed in a modern economy.
The main function of money and capital market is to mobilise savings of
investment. Thus, money is the basis of transforming savings into
investment.