Commodity money, such as gold and silver, has additional uses beyond being currency, providing flexibility for holders and a deterrent to inflation. However, modern economists argue that its drawbacks outweigh its benefits. Fiat money, representative money, and commercial bank money are the other three main types of money. Commodity money has a built-in supply limitation, unlike fiat money, which can be created by governments, potentially leading to inflation and devaluation.
Commodity money is any form of currency that can serve a purpose other than as money. The best known examples are precious metals such as gold and silver, although other items such as cigarettes or even peppercorns have been or are used for this purpose. It offers benefits such as greater flexibility for money holders, the ability to get rich quick, and a built-in deterrent to inflation in the economy. It is important to note that modern economists argue that these advantages have limitations and are outweighed by drawbacks, which is why this type of money is almost never used as currency in developed economies.
There are four main types of money. The most common type is fiat money, a form of currency, usually coins or banknotes, that derives its value simply from the fact that the government has declared it legal tender, meaning it must be accepted for settlement. of debts. Representative money is when a token, such as a note or certificate, derives its value from a government promise that it can be exchanged for a commodity such as withholding. Commercial bank money is money that exists within the banking system. Because banks often borrow and lend much more money than they have in cash, commercial bank money is considered non-physical.
The main advantage of commodity money is simply that it has an additional purpose. For example, gold can be made into jewelry, while cigarettes can be smoked. This gives the holder additional options; he can use or spend the money. This can also be seen as a disadvantage. If cigarettes become an informal currency in prison, for example, smoking a cigarette can become an expensive activity.
Another advantage of this type of money for some people is that it is possible to acquire money that was not in circulation before. For example, if gold is used as basic money and someone discovers more of this metal, he or she may get more value from its role as money than from its role as a base for jewelry. Of course, this can be a major drawback for the economy as a whole, as it will counteract the way money is used in a market economy to ultimately decide how assets are used and allocated.
In theory at least, commodity money has a built-in supply limitation; without a major discovery, the amount of silver, for example, will remain constant. This is in contrast to fiat money, where a government can create more money through technical measures, such as quantitative easing, or simply by printing notes. This means that there is a risk that government actions will cause inflation and the devaluation of existing money, which is not as likely with gold or other commodities.
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