Money is something which can be used as a medium of exchange for payments of goods and services. It has an advantage over the barter system(where you exchange one good with another good instead of money)
For e.g If a person A has 1 kg of rice and his neighbour B has 2 kg of wheat, they both come to a mutual agreement to exchange these goods today and in future as well. But what happens if B does not want rice but he wants pulses. Now let’s say a person C comes into the picture and he has pulses, so they can exchange these goods mutually. This concept is simple but it is limited because you do not know what other person wants for his satisfaction. So the Barter system is no longer used, it is used only in some villages.
Thus money came into the picture as a medium of exchange.
But there is another problem, as there many countries and each of them have their own currency, so to make a fair exchange system we have to assign some value to each and every currency.
In terms of Gold: Erstwhile determinant of exchange system was in terms of gold a country has, so those countries which have more gold were considered to be rich and their currency had higher values compared to the poor countries.
But gold as a medium of exchange is not feasible because they did not bother to consider shipping charges and wear and tear charges of gold while travelling. So it would be a loss for an economy at larger terms if they don’t consider each and every loss.
Then there were many suggestions by economists to give a feasible exchange rate system. But only a few of them are used these days
Free paper currency or purchasing power parity(PPP): Here the medium of exchange is determined by the purchasing power of each country, suppose the price of pulses is 60/kg in India and in the US, it is 1$ so, this means the same amount of good in India can be purchased in 60 Rs which can be purchased at 1 $ in the US, thus 1$= 60Rs.
But this also has some limitations:
Goods which are limited to a particular geographical area can’t determine the price of a currency. These are non-tradeable goods. So it hinders the fair means of exchange.
Hence, this medium is limited only for GDP determination and some other means.
Supply and Demand theory: Where currency is considered as a common good instead of a value. It is totally rational and fair exchange method because the price is determined by the supply and demand of a particular currency, its value appreciates when demand increases and depreciates when demand decreases. Most of the countries in the world have adopted this system as a medium of exchanging currencies so as to maintain fair trade relations.
Suppose, the Indian currency has a market value of 60rs compared to 1$, now if there is an increase in export from India and more trade will happen, then it is quite obvious that demand of our currency will be more. For e.g, you might have seen that the price of some products increase when people are willing to buy it more. The same thing happens with money also. Its value fluctuates on the basis of market factors.
Now if any government tries to print more money, this will hinder the equilibrium of demand and supply and they will face consequences
For instance, if onions are produced more in a particular season, people will not buy it and its price will fall down. It is known as inflation.
Similarly, if a govt. prints double the amount of money compared to the previous year, it will cause inflation as it is injected forcefully and free flow of economy will be in trouble.
If everyone will have 1lakh in their account, there will be more expectations by them, so the price of a good which was 10 Rs earlier will increase to the manifold. Same case with injecting money
Share markets will plunge down due to sudden disbalance in the equilibrium.
During the world war, II Germany did the same thing, as they were having huge debt due to war, so its govt thought of printing more money, but it created a crisis and they had to burn all those notes.
Many neighbouring countries try to disbalance of the economy by printing more notes, this is the reason why RBI is trying to curb fake currency by implementing various changes in our notes.
Current Affairs Today:-https://nationnewsindia2020.blogspot.com/2020/04/current-affairs-today_91.html
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