The Concept of Money

Prof. Waseem Subhani [IBA], University of the Punjab

 The Concept of Money
 Defining Money
To defining money is complicated. This is because
money is not only a name of any material but it also
comprises certain attributes and privileges. To define
money we have different approaches.
 General Acceptability
“Money is anything that is generally acceptable in
payment for goods and in discharge of all kinds of
business obligations.”

Prof. Waseem Subhani [IBA], University of the Punjab 2

 The Concept of Money – cont’d

 Descriptive Approach:
This approach says that besides acting as a
generally acceptable thing, money must have
certain other qualities as given below.

Prof. Waseem Subhani [IBA], University of the Punjab 3

 The Concept of Money – cont’d
 Legal Aspect:
J.M. Keynes was the first to emphasize on the legal
aspect of money.
“Money itself is that by delivery of which debt
contracts and price contracts are discharged and in
the shape of which general purchasing power is
held.”
What is said in the above three definitions can be
summed up in the famous saying.
“Money is a matter of functions four,
a medium, a measure, a standard , a store.’’

Prof. Waseem Subhani [IBA], University of the Punjab

Alternative approach
An alternative approach to define
money is to take account of what
constitutes money or what are the
components of money.
Generally there are three components of
money:
1. Traditional view [M1]
2. Monetarist view [M2]
3. Liquidity approach [M3]
Traditional view [M1]
According to traditional view,
Money consists only of currency
and demand deposits. Thus
M1=C+D

C= Currency that includes notes

and coins which are the debts of
Govt.
D= Deposits of banks on whom
cheque can be drawn.
Monetarist view [M2]

It includes saving and time deposits.

M2= M1+ Savings deposits + Fixed

deposits
Liquid approach [M3]

This is even a much broader definition

of money taking into account different
current assets.

M3= M1+M2+ Saving scheme deposits

+ bearer certificates.
 Types of Money

Prof. Waseem Subhani [IBA], University of the Punjab 4

 Types of Money

1. Commodity Money:
Examples include iron tools, war equipments,
swords, knifes, animal skins, animal teeth,
fish teeth, nets, crops, stones etc.

Prof. Waseem Subhani [IBA], University of the Punjab 5

 Types of Money – cont’d

2. Metallic Money:
Metallic money (a coin as they are now
called) are of small denomination and their
intrinsic value (i.e., the value of metal
content) is much lower than their face value.

Prof. Waseem Subhani [IBA], University of the Punjab 6

 Metallic Money – cont’d

 Advantages:
1. They can be conveniently kept.
2. They can be rapidly converted into
other type of currency.
3. There is no chance of hoarding or
melting as intrinsic value of metal is less
than the face value.

Prof. Waseem Subhani [IBA], University of the Punjab 7

 Metallic Money – cont’d

 Disadvantages:
(a) Full bodied money: It means that the
piece of metal that is used as a money has the
same intrinsic and face value.
(b) Token money: It means such a money
whose intrinsic value is less than its
face value.

Prof. Waseem Subhani [IBA], University of the Punjab 8

 Types of Money

Paper Money
Paper Money means the currency
notes issued by the central bank of
country. The origin of this form of
money can be traced back to the
receipts issued by goldsmiths for the
deposits held by them.

Prof. Waseem Subhani [IBA], University of the Punjab 9

(a) Representative Paper
Money
Representative Paper Money is one
which is fully backed by gold or
metallic reserves. This means that
the govt. is in a position to convert
all the notes into gold if they are
presented for conversion at the
same time.
(b) Convertible Paper Money

It is such a form of money which

can be converted into gold and
metallic reserves but not all the
notes issued by the govt. are
fully backed by gold.
• Representative • Convertible
Paper Money: Paper Money:

• It is fully backed by • be converted into

gold or metallic gold and metallic
reserves reserves but not
all the notes
issued by the
govt. are fully
backed by gold
 Paper Money – Cont’d
(c) Fiat Paper Money:
Fiat paper money is one that we have
got in our pockets. Neither it is convertible,
nor it is fully backed by gold or metallic
reserves. If you read your 100 rupee note,
you will find:
:

Prof. Waseem Subhani [IBA], University of the Punjab 10

 Types of Money

4. Bank Money:
Bank money means near money, which is
not always legal tender but it is widely
accepted as a medium of exchange.

Prof. Waseem Subhani [IBA], University of the Punjab 11

 Bank Money – cont’d

Cheque
A cheque is a written instruction
on a specified piece of paper from
a client to his bank, instructing the
later to pay a certain sum of
money. Money is withdrawn by the
client himself or it could be in the
name of any third party.

Prof. Waseem Subhani [IBA], University of the Punjab 12

 Bill of Exchange
Bill of Exchange is a convenient
way to pay for commercial
transaction in credit. The seller
instead of taking cash from the
buyer draws a bill on him which
the buyer accepts by signing it.
This bill can be a sight bill or a
time bill.
 Draft
Draft is just like a cheque. However,
the difference is that it is drawn by
a bank on its on branch or on any
other banks branch. So, we can say
that drafts are the cheque, which
are issued by the banks. A draft
when drawn on a bank, directs it to
pay a certain sum of money to a
person named on it.
 Types of Money

Plastic Money
Plastic money means the credit cards and
plastic cards which have silicon chips and a
specially printed set of characters.

Prof. Waseem Subhani [IBA], University of the Punjab 13

 Types of Money

6. Other Forms:
(a) Black Money: Black money is one
which has been gathered through
illegal means.
(b) White Money: White money is one
which has been earned through legal
and legitimate means.
(cont’d)

Prof. Waseem Subhani [IBA], University of the Punjab 14

 Types of Money

Other Forms – cont’d

(c) Cheap Money: Cheap money is

one whose cost of borrowing is less
than the standard rate of interest.

Prof. Waseem Subhani [IBA], University of the Punjab 15

 Types of Money

Other Forms – cont’d

Dear money: In times of boom there is a

high demand for money. To control
it banks usually increase the interest
rate above normal level.

Prof. Waseem Subhani [IBA], University of the Punjab 16

Principles and Methods
of Note Issue

•Currency Principle

•Banking Principle
 Currency Principle

Currency Principle is based on

100 percent gold backing.
According to this principle
Central bank must keep 100
percent reserves against each
and every note issued.
• Merits • Demerits

• Full Safety • Inelastic

• No over issue • No use of gold
• Stability • Not suitable for
• Confidence modern economy
 Banking Principle
Banking Principle lies on the other
end. This principle says that note
issuance should be dealt
independently by central bank
and it shall be allowed to issue
notes according to the ongoing
circumstances. Also there is no
need of full backing of gold under
this principle.
• Merits • Demerits

• Elastic supply • Danger of over

• Economical issue
• Usage of gold • Lack of
reserves convertibility
• Public confidence
• Suitable for
modern economy
• Helpful in
emergency
 Methods of Note
issue
1. Fixed Fiduciary issue
2. Proportionate reserve
system
3. Minimum reserves system
 Fixed Fiduciary
issue
This is widely recognized as an
important method of note issue.
Under this system a limit of
volume of currency has been
fixed by central authority. This
limit is called fiduciary limit.
• Merits • Demerits

• Controlled supply • Inelastic

• No danger of over
issue
 Proportionate reserve
system
Under this system the central bank is
required to keep 100 cent reserves for
particular percentage of notes issued.
The rest of the notes issued are backed by
government securities and government bills.
Usually 25 percent to 40 percent of notes
issued are fully backed by gold and rest are
backed by government securities.
Merits Demerits
• A widely • Rigid
prevailing system • Contraction in
• Elastic money supply
• High degree of
safety
• Responsive
 Minimum reserve
system
Under the minimum reserve system method
of note issue the central bank has to keep
only a minimum amount of reserves,
against all notes issued.
This means that any volume of currency can
be issued by the central bank depending on
the demands of economy. There is no fixed
maximum limit under this system. Once a
central authority decides a minimum value
of reserve the issuing authority is at liberty
to expand or contract supply of currency.
Merits Demerits
• Elasticity • Inconvertibility
• Responsive • No intrinsic value
• Safety
• Suitable for
modern world
 ISSUANCE OF MONEY IN
PAKISTAN
In the beginning the SBP issued notes on the basis of SBP Act
1956. According to this act the notes were issued on a
proportional reserve system.
In proportional method backed by equivalent amount of assets.
At least 30 % of such assets must be gold and gold bullion , silver
bullion.
However after 1965 the 30% reserve assignment was changed by
an ordinance. The ordinance gave authority to federal
government.
The system is more or less a form of minimum Reserve system.
This system is flexible and safe. In this system supply can be
changed whether increased or decrease according to economic
requirement.
This system is more safe and flexible. Under this system
quantum of note issue reflect the demand of economy fro
currency. SBP is in better position to alter the supply of
currency in response to changes in aggregate demand ,
aggregate supply under this system.
Moreover this system is suitable for modern economy and
help out central bank to perform fiscal or monetary
operations only.
Currently inflation rate is creating problem for bank. In
order to strengthen the economy SBP have to cope with
these all problems.
thank U

Best of Luck