In a modern economy money consists mainly of currency notes and coins issued by the monetary authority of the country.
- In India currency notes are issued by the Reserve Bank of India (RBI), which is the monetary authority in India.
- However, coins are issued by the Government of India.
- Apart from currency notes and coins, the balance in savings, or current account deposits, held by the public in commercial banks is also considered money since cheques drawn on these accounts are used to settle transactions.
- Such deposits are called demand-deposits as they are payable by the bank on demand from the account-holder.
- Other deposits, e.g. fixed deposits, have a fixed period to maturity and are referred to as time-deposits.
Though a hundred-rupee note can be used to obtain commodities worth Rs 100 from a shop, the value of the paper itself is negligible – certainly less than Rs 100. Similarly, the value of the metal in a five-rupee coin is probably not worth Rs 5.
Why then do people accept such notes and coins in exchange of goods which are apparently more valuable than these? The value of the currency notes and coins is derived from the guarantee provided by the issuing authority of these items. Every currency note bears on its face a promise from the Governor of RBI that if someone produces the note to RBI, or any other commercial bank, RBI will be responsible for giving the person purchasing power equal to the value printed on the note. The same is also true of coins.
- Currency notes and coins are therefore called fiat money.
- They do not have intrinsic value like a gold or silver coin.
- They are also called legal tenders as they cannot be refused by any citizen of the country for settlement of any kind of transaction.
- Cheques drawn on savings or current accounts, however, can be refused by anyone as a mode of payment. Hence, demand-deposits are not legal tenders.
- Legal Definitions : Narrow And Broad Money
- Money Creation By The Banking System
- Instruments Of Monetary Policy And The Reserve Bank Of India
Bibliography : NCERT – Introductory Macroeconomics