Fundamentals of Economics Individual as Producer, Consumer and Borrower: Money

Dr. Manishika Jain- Join online Paper 1 intensive course. Includes tests and expected questions.


  • Medium of exchange

  • Banknotes, coins, gold & bank deposits


  • Durability – last long, made of polymer (1st in Australia in 1988); US dollar can be folded 4000 times forward and backward before tearing. Singapore, Brunei, Hong Kong & Australia – polymer notes. Notes last 9 years and coins around 30 years as per US.

  • Acceptability – official tender, gold is universally accepted. Zimbabwean dollar ceased to be accepted as a medium of exchange in 2009 when the country, which had been suffering from civil unrest, experienced hyperinflation. In October 2008, Zimbabweans needed Z$2621984228 to purchase US$1 worth of goods.

  • Divisibility – it must be divisible (earlier cattle and cow used and not divisible)

  • Uniformity – look identical in shape, size, appearance (cows not uniform) - The first consistent form of money, cowry shells, was used in China over 3200 years ago. These seashells were used for mainly trading food, livestock and textiles.

  • Scarcity – limited quantity; seashells and salt in past as money but supply was too much and lost importance.

  • Portability – usually weight of 1 note is 1 gm (help electronic payment without cash). The first coins used as money appeared around 2000 BC.

Functions of Money

  • Medium of exchange – for trade

  • Measure of value – unit of account and measures market value

  • Store of value – hold the value and can be used later

  • Standard of deferred payment – standard for future payments (loans taken today are repaid sometime in future)

Bartering & Need for Exchange

Bartering is the act of swapping items in exchange for other items through a process of bargaining and negotiation Problems

  • Double coincidence of wants - the person with chickens must find a trader who wants chickens in exchange for their sheep. As two people engaged in a trade must both want what the other person is offering, bartering is highly inefficient.

  • Divisibility – sheep cannot be traded

  • Portability – sheep to be moved from one location to another

Central Bank Functions

  • Sole issuer of banknotes and coins

  • Government bank

  • Banker’s bank

  • Lender of Last Resort

  • Central bank - Oversee and manage nation’s money supply and banking system – oversee monetary policy, responsible for entire money supply & manipulation of interest rates

  • European Central Bank (for the Eurozone countries), the USA’s Federal Reserve, the Bank of England, the People’s Bank of China and the Reserve Bank of India

  • USA’s Federal Reserve – formed in Dec 1913.

  • Issuer of Notes: only authority that can print banknotes and mint coins – bring uniformity, improve public confidence. Exception- Hong Kong where three commercial banks (Standard Chartered, HSBC and Bank of China) have note-issuing rights, although the Hong Kong Monetary Authority maintains overall control of the country’s banking system, including the circulation of banknotes and coins.

  • Govt. Bank: Maintain bank account of central government – receive deposit, short term loans, manage public-sector debt, stabilize external value of nation’s currency

  • Banker’s bank: oversee cash reserves of commercial banks. cheque clearing function of the central bank reduces the need for cash withdrawals, thus enabling commercial banks to function more efficiently. Overview liquidity position

  • Lender of last resort: commercial bank keep % of cash with central bank as reserve – can be used during financial emergencies

  • A bailout refers to a loan or financial assistance provided to a company (or country) which faces bankruptcy and financial difficulties. Aim was to prevent job loss and socioeconomic failure. Cyprus invested $10 billion in bailout (56% of GDP)

Stock Exchange/Bourse

  • Stock exchange - institutional marketplace for trading the shares of public limited companies. New York Stock Exchange (NYSE), London Stock Exchange, Frankfurt Stock Exchange, Shanghai Stock Exchange and Bombay Stock Exchange.

  • Create business, consumer confidence, boost investment


  • Raising share capital for businesses: stock exchange provides public limited companies with the facility to raise huge amounts of finance. Share capital is main source of finance. IPO (Initial Public Offering) – many companies go public by selling shares on stock exchange for 1st time. Popular ones get oversubscribed and this forces share prices upward. Existing companies that are listed on a stock exchange can raise more share capital by selling additional sales in a share issue (or a share placement). But by issuing more shares, ownership and control of the company become weakened.

  • Facilitating company growth: Share issue – Along with IPO sell additional shares to raise funds. Perrobras - Brazil’s largest oil company - managed to raise $70 billion from selling additional shares to the general public in September 2010. Growth by mergers and acquisitions - Walt Disney Company acquired Lucasfilm (creators of the best-selling Star Wars franchise) via the New York Stock Exchange in 2012 for $4.05 billion.

  • Facilitating sale of government bonds (type of loan) - Bondholders do not have ownership rights, but earn interest based on the number of bonds bought and the prevailing interest rate. Finance from govt. bond funds infrastructure

  • Price mechanism for trading shares – determined by relative demand and supply. Price fluctuation and valuation handled by stock exchange.

  • Safety of transactions – companies that trade are regulated and share dealings are defined with legal framework. This helps to boost the level of confidence in buying and selling shares – impact growth and capital formation

Commercial Banks

  • Maintain deposit

  • Transaction are socially & legally governed by central bank

  • A commercial bank is a retail bank that provides financial services to its customers, such as accepting savings deposits and approving bank loans.

  • Commercial banking started 200 years ago when goldsmith operated as banks.

  • Banking itself can be traced to 2000 BC when merchants in Assyria and Babylonia used grain loans to farmers and other traders. Modern commercial banking using the internet (e -banking) did not start until 1995.

Primary Functions

  • Accept deposits – sight deposit (payable on demand) & time deposit (payable after fixed time). Time deposit attract higher rate of deposits

  • Making advance – advance loan to customers – overdraft & mortgage

  • Credit Creation – bank increase supply of money in economy by making money available to borrowers. Generate additional purchasing power but cannot create credit (print notes)

Secondary Functions

  • Collect and clear cheque on behalf of client

  • Additional financial services

  • Safety deposit box – lockers – jewelry and documents

  • Money transfer facility

  • Credit card facility

  • Internet banking facility

Overdrafts (a banking service that allows registered customers to withdraw more money than they actually have in their account)

Mortgages (long-term secured loans for the purchase of assets such as commercial and residential property).