Before the invention of money, people were limited to trading goods and services for one another, meaning that what they could exchange for something else was limited to what they already possess where goods are concerned as well as the services they could provide.
This is a very inefficient way to trade though as it depends on each party having what the other wants. Then someone got the idea to trade in a commodity that could represent value, so instead of having to settle for goods and services of the other party in a trade, you could trade goods and services for this commodity.
The commodity used ideally could not be readily available, otherwise it would have no more value than its value in the market apart from its use as representing value. If we tried using common stones found in nature as money for instance, one could just go outside and collect a few and seek to trade those. The other person though would not wish to part with their items of value for these rocks because if they desired them they could just go in a field and collect some themselves.
Some cultures tried using more common items such as beads or shells but this failed to achieve the status of currency due to their requiring the receiving party to put enough symbolic value in it, and therefore these trades with more common goods primarily functioned as commodity trades, even though these commodities did tend to become valued perhaps more than they otherwise would.
The first real money was created out of gold and silver, two precious metals which were rare enough to serve the purpose of a high level of exclusivity, as well as being portable and being perceived as having value in themselves, apart from their representative value as money.
Humans are believed to have collected gold as far back as 40,000 BC, and gold throughout history has been prized for not only its beauty but its rarity. Gold is known to have been traded for other goods for millennia, predating recorded history. Prior to gold being treated as currency, as money, gold was traded as a good in barter systems, along with silver, and the Ancient Egyptians were the first to fix an exchange rate between gold and silver, by decree and not market forces.
Gold Money Emerges
Eventually, after a very long history of gold being traded as a commodity in the marketplace, the notion of it being used as currency emerged.
Money is actually a broader concept, meaning something that is generally accepted as a medium of exchange, although not necessarily a universal medium. If a culture, for instance, will generally accept a certain item, cattle for instance as we have seen in some cultures, or other goods, then that can be deemed as money.
One could refuse to accept a cow in exchange for something else though, so it is not required that everyone accept a certain form of money, only that it be generally accepted. Bitcoin and other digital currencies function as money for instance, even though few merchants accept it. You can still pay for things with it and send other people “money” with it when money is owed or desired to be exchanged.
So it’s not that gold was the first form of money per se, but it was the first form of what we could call organized money, where the state or its rulers became involved in its management. This involved the issuance of coins which were then deemed to be acceptable by those in power to be used as means of exchange.
Coinage first emerged in Ancient China around 1000 BC, crafted out of bronze, and coins both offered portability as well as being able to design them in a way that made counterfeiting difficult. This is a particular concern with metals of more common value, and the one thing missing from these coins was enough intrinsic value to make the coin more desirable to own.
Gold and silver and these intrinsic qualities, and it wasn’t until their being struck as coins representing money that coinage really took off in popularity. The first precious metal coins appeared on the scene around 700 BC in Greece, struck from a naturally occurring metal containing both gold and silver known as electrum.
Gold as Money Expands
Before too long, coins containing gold were crafted and their use as money became widely accepted. Aside from the representative value of the coins, gold in itself was valuable, which encouraged people to trade their goods and services with them without any real concern.
Assaying was employed to ensure that the coins contained real gold. Assaying methods involving what is known as a touchstone predated gold as money by 3000 years, so by this time we had a way to ascertain whether a coin was genuine or not.
The use of intricate stamping on the gold coins also served to denote its authenticity, and governments and rulers used standardization in the minting of gold coins to sufficiently distinguish them and to make them more difficult to counterfeit.
This is not to say that problems did not occur though, and one in particular, the practice of clipping gold from coins was a particular issue with gold coins. One could clip off a small amount from each coin without affecting their appearance or apparent weight, and with gold being so valuable, this ended up being a profitable venture for some.
To this day though, money has always been subject to issues like this, particularly the practice of counterfeiting, and counterfeiting is perhaps a bigger issue in modern times than it was in the past, due to both improvements in technology and the much higher fiat value of money today.
Fiat Money Versus Gold Money
As printing technology advanced, and as people become more and more comfortable with the idea of money merely representing value rather than requiring any value in itself, like gold has for instance, fiat money emerged as the dominant form of money in the world.
Fiat money is declared to be money by way of fiat, by the governments issuing the money. This is backed by the full force of the law, as one is required by law to accept fiat money, being deemed to be legal tender.
Gold did serve its purpose as money in earlier times, but it suffers from the issue of not being really that suited to represent value, and the reason is that its intrinsic value is so high. Over time, while gold coins continued to be produced, governments would turn to other, cheaper metals such as nickel and copper to craft their coins from.
Since these coins were legal tender, it didn’t matter what metal they were cast from, and it did not make sense for mints to pay very high percentages of the representative value of the money for the raw material needed.
For instance, there have been cases in the past where the precious metal was worth more than the denoted value of the coin, and people would acquire the coins and melt them down and sell the metal as a commodity.
As paper money arrived on the scene, the paper itself was worthless, so in order to gain public acceptance, this money typically was backed by gold, called the gold standard. People were given the right to exchange the notes for physical gold, in the same way that they would redeem gold certificates, and although this wasn’t something that as done very often, the very idea that you could was enough.
There are some real problems with this though from an efficiency standpoint, and if gold had to be held in reserve to offset issued paper currency, this provided a lot of restraint upon money supply, and the economy of a country in turn.
While money not backed by gold is subject to the risks of hyperinflation, which we did see in practice, this risk is seen as low to extremely low in today’s managed economies, and the benefits of purely fiat money are seen as well worth any risks involved.
The gold standard did prevent governments from printing too much money, as to risk hyperinflation, but this restraint also served to restrict their ability to stimulate the economy in times of economic recession.
In recent decades, the concept of the gold standard has become antiquated, as fiat money is simply far more efficient, in terms of the cost of producing it versus its representative value. Fiat money is in many ways the first true money, where all of its value comes from its trading value, and this can be seen as not an undesirable characteristic but a very desirable one from an economic perspective anyway.
The lower the cost of producing and maintaining money, the better, and being able to produce it very cheaply by just printing notes is the ultimate in efficiency, with the costs of production and maintenance being extremely low, allowing governments to print the exact amount that may be appropriate in any given economic climate.
The prospects of having one’s wealth melted down by hyperinflation does still concern some people though, and many have significant portions of their wealth in gold and other precious metals, for purposes of stability and not for speculation or investment.
Governments still keep stores of gold as a way of seeking balance for their assets, even though their currencies aren’t tied to gold as they once were. We should want money to be valued according to the marketplace though, and not tie it to something else whose value may fluctuate independently and therefore not allow for desired fiscal policy and other economic policies to be properly effective.
People can and still do store whatever proportion of their wealth in gold, and while fiat currency may be necessary to use money as a means of trade, this does not mean one is forced to store their wealth in currency. One may do so through a number of different investments, although gold remains a very viable option here, and gold still has its place as a major store of wealth, as it has for millennia, far before money was ever invented.
Editor, MarketReview.com
Monica uses a balanced approach to investment analysis, ensuring that we looking at the right things and not confined to a single and limiting theory which can lead us astray.
