The Evolution of Money and the Financial System
The Evolution of Money
To avoid difficulties in bartering, commodity money emerged. This medium of exchange needed to be durable, portable, divisible, scarce, and generally accepted. Due to the high risk of transporting gold and silver coins, merchants left them in the custody of goldsmiths. These custodians provided signatures and seals to depositors, marking the first example of paper money towards the end of the medieval period.
Intermediary money changers emerged, trading promissory notes in exchange for gold or silver coins.
Functions of Money
- Means of Payment or Exchange: Money is a generally accepted means of payment, solving the difficulties of bartering.
- Store of Value: Money’s small volume makes it easier to store than other goods. Businesses and families keep part of their wealth as money, although inflation reduces its value.
- Unit of Account: The valuation of products, jobs, and incomes is conducted in terms of the current monetary unit, enabling comparisons.
The Financial System
Any generally accepted means of payment that serves as a store of value and unit of account is called money.
An asset is any good with market value whose possession provides wealth. Assets can be physical or financial (titles or rights to receive income).
Financial institutions act as intermediaries between those seeking and supplying funds. These intermediaries can be:
- Bank Intermediaries: Primarily banks and savings banks.
- Non-Bank Intermediaries: Investment companies, insurance companies, leasing and factoring entities, mutual guarantee companies, and the stock market.
Objectives of the Financial System
- Encourage private savings.
- Effectively allocate available financial resources to the needs of the economy.
Banks
Banks receive funds from clients and lend them to others seeking financing. They pay an amount to depositors and charge a higher amount for loans granted. This difference, called interest, constitutes bank profit. Banks also charge fees for transactions like transfers, card issuance, and foreign exchange.
Roles of Banks
- Resource Acquisition: Attracting customer resources is the basis of banking. This gives rise to other passive operations.
- Current or Savings Accounts: Customers receive a checkbook to facilitate operations.
- Term Deposits: Funds remain in the bank for a set time period, earning higher interest than current or savings accounts.
- Loans: Funds granted to individuals or institutions who agree to repay within a set time with interest.
- Credit: Banks grant customers the right to access funds up to a certain limit.
The Value of Money and Interest
Money loses value over time due to a loss of purchasing power. To mitigate this, families invest capital in financial assets in return for interest payments.
Interest, the price for using money, depends on:
- Risk: Less risk, less interest, and vice versa.
- Term: Longer term, higher interest, and vice versa.
- Liquidity: Less liquidity, higher interest, and vice versa.
The annual percentage rate (APR) is the final percentage of financial assets, including taxes.
Money Market and Capital Market
The capital market involves financial activities performed by banks, insurance agencies, and investment funds. They exchange or lend money, stocks, and treasury bills. The Euribor, the interest rate at which major European banks lend money, influences families by serving as a reference for calculating mortgage interest.