12 CHAPTER M oney talks, and, depending on who is listening, it can say a variety of things. Money’s allure is undeniable. However, it is neither static nor easy to define; it has taken many forms and continues to evolve today. This chapter highlights four main issues: the functions money performs in modern economies, the connection between money and interest rates, how banks help create money, and why gov- ernments choose to so closely oversee the financial system. The two greatest inventions of the human mind are writing and money—the common language of intelligence and the common language of self-interest. — HONORé-GABRIEL MIRABEAU, FRENCH STATESMAN AND ORATOR Money LEARNING OBJECTIVES After this chapter, you will be able to LO 3 LO 1 LO 2 Outline the functions of money, its compo- nents, and the various definitions of money Identify the demand for and supply of money and describe equilibrium in the money market Explain how money is created and define the money multiplier
328 PART 3 Economic Stability The Functions of Money Money serves three separate functions in any economy. It provides a means of exchange, a store of purchasing power, and a measure of value. MEANS OF EXCHANGE The most important function of money is that it acts as a means of payment whenever items are bought and sold. This is illustrated in the article on the history of money, “As Good as Gold,” available at the Online Learning Centre (). Without money, market participants must trade one product for another product, a transaction known as barter . Barter is an unwieldy method of exchanging products. Someone purchasing an item must find a seller who wants what the purchaser is offering in return. In other words, there must be a coincidence of wants between both parties. For example, a barber who wants to buy a clock must find a clockmaker who wants a haircut. Because a coincidence of wants is usually difficult to achieve, trade is discouraged, so most people living in a barter system produce many items for themselves. Money overcomes these problems. The barber can deal with any clockmaker and pay in money, which the clockmaker can then use to purchase a wide range of items. The benefits of money as a means of exchange are far-reaching. People can mini- mize the time they spend finding others with whom they can buy and sell. They can also focus their productive activity by devoting themselves to economic pursuits in which they are most adept: the barber can stick to cutting hair and the clockmaker to making clocks. Specialization promotes the division of labour and allows an economy to achieve higher levels of output. Therefore, the use of money not only facilitates transactions of goods and services—it also raises living standards.
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- Fall '18