What is unknown is of equal or more importance as compared to what is known. Money is one such subject. Future is often built on the bricks and blocks of the past. Hence it is a worthwhile exercise to understand the existing money in its myriad forms and all consuming complex glory. On completion of which one can safely understand what cryptocurrency is, which is housed carefully in another page as a part of thecaa.us’s ongoing initiative to educate the readers about money, digital currencies and the future of money as it unfolds.
What is Money?
The same question can be asked in multiple ways — what is digital currency? What is digital money? What is the future of money? And a few other combination of words. It is relatively easier to explain cryptocurrency in technical terms. The wikipedia page on Cryptocurrency would be the right candidate to refer to ‘understand’ cryptocurrency. However to help the readers ‘comprehend’ cryptocurrency, we have drafted this page on thecaa.
In the beginning there was barter system and then came the money. Money is a term that could be used to explain any object from the past to the present, the value of which is what the humans who use the money bestow upon it. Money is simply any material that carries a mutually agreed promise of value. In a prison with no paper currencies, cigarettes are a form of currency. In our day to day world, money exists in various forms ranging from papers, bonds, legal documents, precious metals, plastic cards, digital numbers and so on. Money works as long as the using parties mutually and collectively agree upon the value of it.
Who approves what money is?
Anything that is widely accepted as a form of payment usually qualifies as money. But the cigarettes in the prison or the sea shells don’t really qualify as money simply because the government won’t accept these forms of currency as a mode to collect taxes. It is when the tax can be paid with a particular form of money, that it becomes formalized and normalized system of payment. Sorry sea shells!
Hence essentially there are only a few forms of formal money. Cash, banknotes and coins, central bank reserves, commercial bank monies are the ones that we need to know of.
The traditional currency known to mankind for the last few millennia has been the physical and tangible forms of money. Money in the past had assumed various shapes and forms, ranging from calcareous shells that were nothing more than the exoskeletons of the molluskan family, to plastic cards with magnetic stripes on them. Progressing further money is now in digital form stored as numbers in databases, often centralized and encrypted, safeguarded by the banks that manage the money.
In the wake of late 2008 and early 2009, a new form of currency has come into the economic picture of the world. These are popularly termed cryptocurrencies. Cryptocurrency are digital currencies too, however the important distinction rests in the fact that unlike centralized money that is managed by the banks on behalf of the governments and the people, cryptocurrencies are encrypted store of value that abides by the mathematical laws of their design and creation, which is controlled by the people themselves. Long technical story short — Cryptocurrencies are digital currencies that are created by the people and consumed by the people, in a decentralized manner, meaning it is governed not by the governments or the banks, but by the mathematical constructs. The value of cryptocurrencies are not fixed by any institution or authority figure. The value is fixed (or changed) by the supply, demand, frequency of usage and scale of adoption.
Before we delve deeper into talking about the technical aspects of the cryptocurrency, it helps to take a step back in time and walk the path that today’s money has travelled along the human civilization’s course.
Another important property that has been associated with money since its inception is the ‘fungibility’. Fungibility is a fancy word for interchangeability. Fungibility is a property of a good or commodity that makes it freely exchangeable or replaceable, in whole or in part, for another of its nature or kind. To explain it even simpler, a dollar is fungible enough to be converted into a coffee. This is the basis on which money has existed for centuries.
Inflation and deflation
Anything with value has power associated with it. And power is fluid — it is either increasing in value or it is decreasing. Power is never static. Similarly the value of any money is never static — it is either increasing in value or decreasing in value. The rate at which the inflation (decreasing value) and deflation (increasing value) happen might vary. This is the stability of money. The stability of any money is only as stable as the humans that use the money and the ways in which they put the money to use.
Tangibility is another property of money that is important. As with anything that is of great importance and value, it is only natural to expect the material that money is made of, to be holdable/tangible, storable and divisible to smaller units. Gold has managed to maintain its glory as a store of value owing to some of its properties, namely, limited & finite supply, universal acceptance and adoption, long life span as a store of value, appeals to human senses and a few other factors.
Where the traditional money goes wrong?
We could talk about the traditional money’s traditional pitfalls and legacy weaknesses — geography bound, proportional to the strength of the government’s ability to run the nation, the value being fixed by a central authority and such. However that would dilute the point. It is rather helpful to talk about cases and situations where the traditional money is failing to serve it’s intended purposes.
An argument for or against the cryptocurrency and traditional money respectively can be better understood by thinking along these lines.
Where money starts?
It is hard to control anything that hasn’t been completely understood. Unsurprisingly not many economists, bankers or the policymakers completely understand or agree upon a single starting point for money. Every bit of money mostly starts as a loan. A credit is where every single unit of money is born. Money is created by the banks under the government’s authority to extend or create credit, either by buying existing assets or through making loans.
What is Fiat Money?
To understand it better we have to get into the etymology of the word ‘Fiat’ — which in latin means “let it be done” or “it shall be”. Hence a fiat currency is anything that the government declares “let there be value, by law and regulation”. Intrinsically fiat money has no value. Imagine you are the richest person from country X. Country X has the currency CXD. When the government of country X falls, so does CXD.
Money as Paper, Plastics and Electrons
Cash is made of paper, which is made of cellulose beaten out of wooden pulp or cotton. Or it is made of plastics with magnetic strips, often molded in the shape of a business card.
Plastic money is soon replacing paper money. Plastic money has it’s advantages. A second look at how money is created by governments and banks, the point of plastic money (credit cards included) become blatantly evident. The transactions that are done with plastic money are often stored in centralized databases of the issuing banks and visible to the governments. This is a great advantage, as accountability and traceability helps to know what is being done with the money and what are the uses the money is being put to. We as a modern civilization have approached a point where 90% of the world’s currency exists only in numbers in databases and the rest is floating around as nimble paper pieces. Economists have recently predicted that only 8% of the world’s currency exist in physical cash form. The rest is all electrons floating in the ether.
Commodity money is made of those materials that have intrinsic value for themselves by their property of being amenable to certain uses. Some examples are gold, silver, copper, tea, salt etc. Tobacco and alcohol are commodity monies too. The problem occurs when there is a ban on these substances. Nevertheless, commodity money has been and is a good candidate as a store of value, so far.
Representative monies are those that have a face value that is greater than their real value. In this sense, fiat money often qualifies as a representative money. Dollar bills are good examples for this type of money. They represent a promissory value backed by the promise of the fiscal stability and economic constructs of the issuing nation.
Hard currency is a term that is endowed upon those currencies that are stable and act as a globally traded currency as a store of value. These currencies are backed by fiscal stability of the issuing government. Most countries want their currencies to get into this league, for the prestigious stature.
Money is what money does. It is a store of value, a medium of exchange, a form of power, solidification of energy… we could add definitions like this. For a comprehensive understanding, post-comprehension of this article, there is an investopedia page that takes this discussion deeper thorough the history to the present. Important thing to note is that the money has evolved across history, along the path of human civilization’s progression and regression. On a conclusory note, cryptocurrencies are not a progressive evolution of what money represents. Cryptocurrencies are a disruptive innovation that rethinks the way money works. More importantly it rethinks the way world works around money. This is an area of interest for further unbiased (cognitive, technocratic and bureaucratic) exploration by the policy makers, economists and governments around the world.