History of Money and Fiat Currency

Updated: Apr 24

Ever wondered how we ended up with the system of currency we have now? Read this! It's important to understand that our money has always changed over history and will continue to change rapidly in the coming years.

The notion of money is about as old as human civilization itself. Money, as we know it today, is valuable because it is a trusted means of exchange, a unit of measurement, and a store of wealth.

Money has evolved in different material forms throughout human history, from cowrie shells, coins, and notes to today's electronic money and digital currency.

A Brief Historical Timeline of Money

Before cash and credit cards, before all the hype and drama regarding cryptocurrency, even prior to gold, mankind had already created the economy. Here is a brief timeline of money:

Barter Economy - Money has existed in some way or another for at least 4000 years. Bartering was the bedrock of the economy until the introduction of money. Bartering, on the other hand, is not a particularly reliable or productive means of trade. Simple trading, such as trading wool for milk, is referred to as bartering. Direct trade was a sensible business system in ancient times. However, as populations expanded, the drawbacks of bartering became apparent.

Gold - It was necessary for money to become standardized. It needed to be represented by something divisible, portable and durable. As a result, the gold standard was established. Gold was rare enough that people wouldn't pick up lumps of it when out on a walk in the evening, and it was flexible enough to be formed into ingots and coins. The latter would be imprinted with a legitimizing portrait (usually of a monarch) to avoid forgery.

However, during the great depression, USA abandoned the gold standard in order to allow the government to pump money into the economy and stimulate recovery. Other countries soon followed suit.

Paper Money - China was once again at the forefront of the evolution of currencies in 600 BCE. Metal coins were expensive to make, were bulky and difficult to trade in large amounts. To solve these problems, the ancient Chinese used one of their most famous inventions - paper, to construct the first paper money. Paper records had been in use for 1800 years before Marco Polo visited China in 1200 CE. However, before paper money, the Chinese, in 118 BC, started using leather money, which came in the form of one-square-foot pieces of rare white deerskin with the edges painted with bright colors.

The first European banknotes were printed in Sweden by Stockholms Banco. They were redeemable against their stated amount of silver coins, held by the bank. Today, banknotes printed and issued by governments all over the world are made from cotton paper. Additional strands of fabrics, such as fiber and linen, are normally blended into the paper. This guarantees that the bill is durable.

Credit Cards - In 1946, a Brooklyn banker named John Biggins launched the first bank card, which enabled users to make transactions from a variety of merchants. The Diners Club card was launched in 1950, opening the way for the first credit card to be issued by the Bank of America in 1958.

About the same time, American Express launched its first credit card, which was the first to be accepted globally.

Nixon Shock - In 1971 President Nixon forged a new path for the U.S. Dollar. Prior to this, every dollar was backed by physical gold. For years, the the purchasing power of the U.S. Dollar was tied directly to the value of Gold. Up until this time, one ounce of Gold stayed pretty consistent with equaling approximately $35. By the end of the year 1975, it took approximately $140 dollars to buy 1 ounce of gold. By the end of 1980, it took approximately $620! At the time of writing this article, it takes $1785 to buy just one ounce. The relationship between the U.S. dollar and the price of gold shows us the loss of purchasing power of the U.S. Dollar over time.

Electronic Money - The 1994 arrival of the World Wide Web brought forth the need of having an online e-commerce ecosystem. In 1998, PayPal was founded, and it leveraged the internet to make payments and money transfers online.

Cryptocurrency - In 2008, in the wake of a global financial crisis, the Bitcoin whitepaper was released under the title: ‘Bitcoin: A Peer-to-Peer Electronic Cash System’. It paved the way for the launch of the first cryptocurrency, Bitcoin. Cryptocurrencies are digital currencies that are completely decentralized and leverage the power of blockchain technology. Over the years, more and more people are becoming aware of blockchain technology and Cryptocurrencies with the demonetization of several government issues currencies. As of today, Bitcoin has rallied to an all time high in terms of price and value.

Fiat Money vs. Inflation

The value of fiat money is essentially determined by public trust in the issuer. Commodity money's value, on the other hand, is determined by the material used to make it, such as gold or silver. As a result, fiat money has no intrinsic value, while commodity money often does. Changes in public confidence in an issuing establishment's fiat money can be sufficient to render it worthless.

Commodity money, however, retains value based on the metal or other material content it has. Fiat money is therefore more at risk of inflation because its value is not intrinsic.

Since fiat money is not tied to physical reserves such as a national stockpile of gold or silver, it is vulnerable to inflation and, in the case of hyperinflation, to becoming unsustainable. When people lose confidence in a country's currency, the monetary system loses its worth. This differs from gold, for instance since it has intrinsic value.

The most important inflationary feature of fiat currency is that it allows the central banks to print or hold money as they see fit to help control the money supply, inflation, interest rates, and liquidity. Moreover, Fiat money contains inflation by controlling the interest rates and by creating more or less money in the system. But that creation of more money can lead to devaluing of that money over time.

Importance of Investing to Beat Inflation

It's important to understand the impact of inflation on your investment returns while planning for the long term. Inflation can erode the worth of an investment over time; even today's modest inflation rate can have a huge effect on your money's buying power in 20 or 30 years.

If you want to accomplish long-term financial goals, such as college savings for your children or your own retirement, you'll need to develop an investment portfolio that will generate adequate returns after inflation is taken into account. Long-term, diversifying your portfolio of stocks and mutual funds can give you the best chance of outperforming inflation.

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