Money is actually a general term for a concept that has changed throughout history and is still changing today. The history of money has played critical roles throughout many other parts of history and it’s not going away anytime soon.
Without further ado, let’s talk about where money came from and where it’s going today.
The beginnings of civilization and the barter system
Money is as old as human civilization itself. The first “money” was discovered in Anatolia – the birthplace of human civilization. That money was obsidian, and it was extremely valuable due to its use in crafting high-quality tools.
Between 12,000 and 9,000 B.C., early civilizations used a number of different valuable items as early forms of money. Along with obsidian, for example, early civilizations were known to use cattle as a bartering tool.
Of course, trading obsidian and cattle is more of a bartering system than an actual currency. But money is a general term for any object that is accepted as payment for goods and services. Today, most of our money is currency. But if you paid the pizza delivery guy using seashells, then those seashells would be considered money as well (and the delivery guy would probably be really sad).
The main difference between the early history of money and today’s money is that early money had multiple uses. You could use cattle and obsidian as a form of wealth storage and you could use it to pay for things. You could also use both cattle and obsidian for more practical purposes. If you ever needed to eat, for example, then you could slaughter your cow. If you needed tools, you could use your obsidian. Today’s money is totally inedible and cannot be crafted into very many usable tools.
As you may have realized, these types of money transactions are limited by one major flaw: there needs to be a “coincidence of wants”. What if someone doesn’t need cattle or obsidian? How are you going to pay that person? This is not an ideal system.
Ultimately, in ancient times, the things with the greatest utility were accepted as the best forms of money. Most people in early civilizations could find a good use for a cow, for example, which is why they were happy to accept a cow as payment.
Ancient Babylon sets the first rules governing money
The Code of Hammurabi is the best preserved set of legal principles from the ancient world. Along with telling us about the laws and punishments of ancient Babylon, it tells us how they viewed money and market transactions.
Hammurabi’s Code set a number of money-related principles that would form the basis for the currency of future civilizations. Those rules included:
- Set interest rates for debt
- Fines for wrongdoing
- Compensation for victims of criminal activity
- Legal contracts regarding business practices and private property
Over time, these practices came to be accepted throughout Babylon and the rest of Mesopotamia. However, nobody had yet created a common currency system. Money exchanges were usually performed with gold bars or silver bars. The value of a metal bar was assessed based on its weight.
While Babylon lacked a common currency, they did create something called the shekel, which was a defined amount of weight for different materials. You might be asked to pay a shekel of barley as a fine, for example, or a shekel of gold.
Who made the first currency?
Early Chinese civilizations were the first to use standardized currency. As early as 1,000 B.C., the Chinese were creating miniature knives and spades that had a symbolic value instead of a practical value.
A few centuries later, civilizations in China, India, and the Aegean region all started developing coins as currency. Coins were different depending on where they were made. Chinese coins, for example, had a small hole in the middle that allowed them to be conveniently strung together. Greek coins, on the other hand, were branded with insignia.
During this period – between 700 B.C. and 500 B.C. – many coins were made from electrum. Electrum is a naturally-occurring alloy of gold and silver. The only major group known to use gold coins at this time were the Lydian merchants. The Kingdom of Lydia was located in modern-day Turkey and holds the title of the first known civilization to use gold coins.
Why would people make coins out of metal instead of other materials? The first major reason is that metal coins carried some inherent value. They could be melted down and used to make weapons, tools, armor, and other practical things, for example. Just like the cattle and obsidian ore used in years past, metal coins carried practical value along with their official stamped value from various nations.
Rome was one of the world’s greatest civilizations and their use of standardized currency would affect the way we use currency today.
Roman currency changed many times throughout the history of the civilization. Coins were made from gold, silver, brass, and copper. They had intrinsic value (you could use the gold, silver, brass, and copper for many different things) but that intrinsic value was slightly less than their stated value in Rome. The Roman coin was known as the denarius and was similar to the Egyptian tetradrachm.
For whatever reason, the Roman Republic never minted coins until 300 B.C. This is considered late because many other neighboring civilizations and city states already had coinage systems in place. By the time the Romans established their own coinage system, they were already the most dominant force in Europe.
Roman coins typically displayed important symbolic images about the Roman Republic, including Roman gods and goddesses. The majority of coins were printed on silver and only the official Roman mint – located in Rome – was allowed to manufacture high-denomination coins in silver. Neighboring cities and regions were free to craft coins of lower value, however.
In 27BC, Rome went from being a republic to an empire as Augustus took autocratic power. This would be a landmark moment in the Roman coinage system. After 27 B.C., Roman coins no longer depicted gods and mythological figures. Instead, they featured images of the Roman emperor at the time in side profile – just like many of today’s coins in use around the world feature side profile images of a nation’s monarchy.
Over time, the value and metal composition of coins would change. Eventually, Romans created coins for many different values, including 1/120 of a denarius (called an “Uncia”) and 1/30 of a denarius (called a “Triens”). Today, we call similar denominations pennies and quarters.
Currency in medieval Europe
In Medieval Europe, silver coins were widely in use until the 13th century, when gold coins once again became a more accepted standard. Gold coins were used throughout England and mainland Europe.
However, not all countries made their own gold coins, and not all gold coins were worth the same. Spanish and English gold coins, for example, were particularly well-accepted. Throughout Medieval Europe, merchants struggled to find an accurate way to convert gold and silver coins into different currencies and trade for goods and services across the continent.
That’s why Bills of Exchange became particularly popular. Bills of Exchange were a key part of trade in Medieval Europe and the Middle Ages. They allowed merchants to travel across the continent without carrying lots of gold coins. In a lawless continent, it was a bad idea to make long treks while carrying a lot of money.
Bills of Exchange were the earliest form of credit. Someone could buy goods and services from a merchant and present that merchant with a Bill of Exchange. That Bill of Exchange could be redeemed at cities across Europe. Provided the seller and buyer were both reputable individuals, the bill could be a medium of exchange and an effective way to store value. It was an early form of credit and an early form of a check.
What about paper currency?
We have yet to talk about paper currency. Paper currency was not as popular throughout early history because it did not have intrinsic value. You could always melt ore coins down into gold, silver, bronze, and copper, but you couldn’t do the same with paper money.
However, these limitations didn’t stop paper money. The Chinese were the first known civilization to use paper money. Beginning around the year 800, China would use paper money for several centuries.
There was one more problem with paper money: it was easy to print en masse without having anything to back its value. With gold and silver coins, the production process required extracting ore from the ground and operating some type of manufacturing facilities. These processes took time, power, and money. Paper money was much easier to create and, as a result, it was produced in huge quantities throughout China.
Eventually, Chinese paper currency dropped in value and became virtually worthless. In the 15th century, the use of paper currency stopped in China and would not return for several hundred years. It’s important to note that no country in Europe used paper currency during this period, although banknotes were a similar idea that would soon become popular.
1800s and the rise of the gold standard
The gold standard was an innovative concept that combined the best aspects of paper money with the best aspects of coins. The gold standard allowed central banks to create money while also having that money backed by precious metals.
Prior to the adoption of the gold standard, banknotes had never been tied to any item of value. While paper money and banknotes had existed, their worth had nothing to do with gold.
The gold standard would change a number of times throughout history. It started out as a ratio of 15 parts silver to 1 part gold. Then, after the pressure of two World Wars and the Great Depression, the value of gold was linked to the world’s most stable currency at the time: the U.S. Dollar. Between 1944 and 1971, the Bretton Woods system “pegged” the value of gold at $35USD per ounce.
The Bretton Woods system stabilized currencies in developed countries around the world but also caused some issues. Like any common currency, it linked the economies of multiple countries together – which isn’t always a good thing when one country starts to falter. In 1971, Nixon ended the Bretton Woods system, which allowed both U.S. currency and gold to have more fluid values.
Fractional reserve banking
Today, all banks operate on the principle of fractional reserve banking. However, a few centuries ago, fractional reserve banking seemed like a bizarre concept.
Fractional reserve banking means that most of the currency in circulation does not physically exist. That currency exists as numbers on a ledger or as decimal points on a bank’s account statements. With fractional reserve banking, banks are only required to keep a fraction of their customers’ money in the bank’s vault.
Banks are legally required to give that money to customers when withdrawn. However, if all customers were to withdraw their money at the exact same time, the bank would be overdrawn and forced to shut down. Thus, fractional reserve banking is a form of risk and trust: we trust that everybody in the country will not suddenly want to withdraw the money and we risk losing all of that money if everybody chose to do that.
Present day: the digital age
The advent of computers may have been the most important moment in the history of currency. Today, relatively little physical currency exists in our world. The majority of currency consists of numbers on computers and will never be reproduced in physical form.
There’s nothing wrong with that. After all, many of today’s goods and services require no physical money transfer. You can pay for nearly anything via credit card and entire stock markets are operated over computers.
It’s important to remember that the difference between total money and physical money existed before the digital age. Fractional reserve banking is not a new concept – the electronic age just made it easier.
In the United States, it’s thought that only about 10% of the currency actually physically exists. The rest is a product of the fractional reserve banking system. Some countries have more than 10% reserves, while others have less.
That’s not a bad thing. This allows an economy to grow without being restricted by a physical money supply. Without a fractional reserve system, it would be difficult for a national mint to keep up with the economic demands of the entire country while also maintaining stable economic growth.
Modern monetary policy
Money is more complicated today than it has ever been in the past. Today, countries must carefully govern their monetary policy to achieve the following goals:
- Low unemployment
- Stable inflation
Central banks use a number of different tools to achieve these goals. They can raise and lower interest rates, for example, which is the most popular tool used by central banks. They can also adjust government spending, raise or lower the reserve requirement of banks, and tax imports/exports.
Today, there are five central banks which have a critical role on the world’s finances and the global economy. Those banks include:
- The United States Federal Reserve
- European Central Bank
- Bank of Japan
- Bank of China
- Bank of England
Out of the central banks listed above, the European Central Bank is the only one which governs the currency of multiple countries. The European Central Bank is responsible for maintaining the stability of the Euro in all Euro Zone countries.
That isn’t always an easy goal. Europe is a diverse continent with a number of diverse economies. Today, the Euro is being dragged down by relatively poor economic countries like Greece and Spain while wealthier countries like Germany and France spend millions on bailout packages.
What is the future of currency?
The future of currency may lie with digital currencies and “cryptocurrencies”. Over the past few years, we’ve seen the sudden rise of anonymous cryptocurrencies like BitCoins and similar competitors.
These currencies are totally different from any other currency in existence today. They have no intrinsic value and exist entirely online in the form of bits and bytes. They’re also anonymous and difficult to track.
Although cryptocurrencies are currently only accepted in a limited number of marketplaces, that number is rising every day. As governments struggle to find ways to tax Bitcoins and similar currencies, consumers continue to buy these currencies in droves.
What does the future of money hold? It’s difficult to say. Some believe we’ll have a single global currency one day, while others think that’s an impossible goal. The expansion of the Euro into more and more countries is an interesting experiment into how a single currency can govern multiple countries in a single geographic area, and the rise of BitCoins, LiteCoins, and DogeCoins could change the future of currency of forever.