Currency

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A currency is a unit of exchange, facilitating the transfer of goods and services. It is one form of money, where money is anything that serves as a medium of exchange, a store of value, and a standard of value. A currency zone is a country or region in which a specific currency is the dominant medium of exchange. To facilitate trade between currency zones, there are exchange rates, which are the prices at which currencies (and the goods and services of individual currency zones) can be exchanged against each other. Currencies can be classified as either floating currencies or fixed currencies based on their exchange rate regime. In common usage, currency sometimes refers to only paper money, as in coins and currency, but this is misleading. Coins and paper money are both forms of currency.

In most cases, each country has monopoly control over the supply and production of its own currency. Member countries of the European Union's Economic and Monetary Union are a notable exception to this rule, as they have ceded control of monetary policy to the European Central Bank.

In cases where a country does have control of its own currency, that control is exercised either by a central bank or by a Ministry of Finance. In either case, the institution that has control of monetary policy is referred to as the monetary authority. Monetary authorities have varying degrees of autonomy from the governments that create them. In the United States, the Federal Reserve System operates without direct interference from the legislative or executive branches. It is important to note that a monetary authority is created and supported by its sponsoring government, so independence can be reduced or revoked by the legislative or executive authority that creates it. However, in practical terms, the revocation of authority is not likely. In almost all Western countries, the monetary authority is largely independent from the government.

Several countries can use the same name, each for their own currency (e.g. Canadian dollars and United States dollars), several countries can use the same currency (e.g. the euro), or a country can declare the currency of another country to be legal tender. For example, Panama and El Salvador have declared U.S. currency to be legal tender, and from 1791-1857, Spanish silver coins were legal tender in the United States. At various times countries have either re-stamped foreign coins, or used currency board issuing one note of currency for each note of a foreign government held, as Ecuador currently does.

Each currency typically has one fractional currency, often valued at 1100 of the main currency: 100 cents = 1 dollar, 100 centimes = 1 franc, 100 pence = 1 pound. Units of 110 or 11000 are also common, but some currencies do not have any smaller units. Mauritania and Madagascar are the only remaining countries that do not use the decimal system; instead, the Mauritanian ouguiya is divided into 5 khoums, while the Malagasy ariary is divided into 5 iraimbilanja. However, due to inflation, both fractional units have in practice fallen into disuse.

See non-decimal currencies for other (mostly historic) currencies with non-decimal divisions.

History

Early currency

The origin of currency is the creation of a circulating medium of exchange based on a unit of account which quickly becomes a store of value. Currency evolved from two basic innovations: the use of counters to assure that shipments arrived with the same goods that were shipped, and later with the use of silver ingots to represent stored value in the form of grain. Both of these developments had occurred by 2000 B.C.E. Originally money was a form of receipting grain stored in temple granaries in ancient Egypt and Mesopotamia.

This first stage of currency, where metals were used to represent stored value, and symbols to represent commodities, formed the basis of trade in the Fertile Crescent for over 1500 years. However, the collapse of the Near Eastern trading system pointed to a flaw: in an era where there was no place that was safe to store value, the value of a circulating medium could only be as sound as the forces that defended that store. Trade could only reach as far as the credibility of that military. By the late Bronze Age, however, a series of international treaties had established safe passage for merchants around the Eastern Mediterranean, spreading from Minoan Crete and Mycenae in the North West to Elam and Bahrein in the South East. Although it is not known what functioned as a currency to facilitate these exchanges, it is thought that ox-hide shaped ingots of copper, produced in Cyprus may have functioned as a currency.

It is thought that the increase in piracy and raiding associated with the Bronze Age collapse, possibly produced by the Peoples of the Sea, brought this trading system to an end. It was only with the recovery of Phoenician trade in the ninth and tenth centuries, that saw a return to prosperity, and the appearance of real coinage, possibly first in Anatolia with Croesus of Lydia and subsequently with the Greeks and Persians.

In Africa many forms of value store have been used including beads, ingots, ivory, various forms of weapons, livestock, the manilla currency, ochre and other earth oxides, and so on. The manilla rings of West Africa were one of the currencies used from the 15th century onwards to buy and sell slaves. African currency is still notable for its variety, and in many places various forms of barter still apply.

Coinage

These factors led to the shift of the store of value being the metal itself: at first silver, then both silver and gold. Metals were mined, weighed, and stamped into coins. This was to assure the individual taking the coin that he was getting a certain known weight of precious metal. Coins could be counterfeited, but they also created a new unit of account, which helped lead to banking. Archimedes' principle was that the next link in currency occurred: coins could now be easily tested for their fine weight of metal, and thus the value of a coin could be determined, even if it had been shaved, debased or otherwise tampered with (see Numismatics).

In most major economies using coinage, copper, silver and gold formed three tiers of coins. Gold coins were used for large purchases, payment of the military and backing of state activities. Silver coins were used for large, but common, transactions, and as a unit of account for taxes, dues, contracts and fealty, while copper coins represented the coinage of common transaction. This system had been used in ancient India since the time of the Mahajanapadas. In Europe, this system worked through the medieval period because there was virtually no new gold, silver or copper introduced through mining or conquest. Thus the overall ratios of the three coinages remained roughly equivalent.

Era of hard and credit money

In China, the need for credit and for circulating medium led to the introduction of paper money, commonly known today as banknotes. In Europe paper money was first introduced in Sweden in 1661. Sweden was rich in copper, thus, because of copper's low value, extraordinarily big coins (often weighing several kilograms) had to be made. Because the coin was so big, it was probably more convenient to carry a note stating your possession of such a coin than to carry the coin itself.

Paper money was, in one sense, a return to the oldest form of currency: it represented a store of value backed by the credibility of the issuing authority. Drafts, letters of credit and checks issued privately had been in intermittent use for centuries, however, it was with the rise of global trade that paper money would find a permanent place in currency.

The advantages of paper currency were numerous: it reduced transport of gold and silver, and thus lowered the risks; it made loaning gold or silver at interest easier, since the specie (gold or silver) never left the possession of the lender until someone else redeemed the note; and it allowed for a division of currency into credit and specie backed forms. It enabled the sale of stock in joint stock companies, and the redemption of those shares in paper.

However, these advantages held within them disadvantages. First, since a note has no intrinsic value, there was nothing to stop issuing authorities from printing more of it than they had specie to back it with. Second, because it created money that did not exist, it increased inflationary pressures, a fact observed by David Hume in the 18th century. The result is that paper money would often lead to an inflationary bubble, which could collapse if people began demanding hard money, causing the demand for paper notes to fall to zero. The printing of paper money was also associated with wars, and financing of wars, and therefore regarded as part of maintaining a standing army.

For these reasons, paper currency was held in suspicion and hostility in Europe and America. It was also addictive, since the speculative profits of trade and capital creation were quite large. Major nations established mints to print money and mint coins, and branches of their treasury to collect taxes and hold gold and silver stock.

Legal tender era

With the creation of central banks, currency underwent several significant changes. During both the coinage and credit money eras the number of entities which had the ability to coin or print money was quite large. One could, literally, have "a license to print money"; many nobles had the right of coinage. Royal colonial companies, such as the Massachusetts Bay Company or the British East India Company could issue notes of credit—money backed by the promise to pay later, or exchangeable for payments owed to the company itself. This led to continual instability of the value of money. The exposure of coins to debasement and shaving, however, presented the same problem in another form: with each pair of hands a coin passed through, its value grew less.

The solution which evolved beginning in the late 18th century and through the 19th century was the creation of a central monetary authority which had a virtual monopoly on issuing currency, and whose notes had to be accepted for "all debts public and private." The creation of a truly national currency, backed by the government's store of precious metals, and enforced by their military and governmental control over an area was, in its time, extremely controversial. Advocates of the old system of Free Banking repealed central banking laws, or slowed down the adoption of restrictions on local currency. (See Gold standard for a fuller discussion of the creation of a standard gold based currency).

At this time both silver and gold were considered legal tender, and accepted by governments for taxes. However, the instability in the ratio between the two grew over the course of the 19th century, with the increase both in supply of these metals, particularly silver, and of trade. This is called bimetallism and the attempt to create a bimetallic standard where both gold and silver backed currency remained in circulation occupied the efforts of inflationists. Governments at this point could use currency as an instrument of policy, printing paper currency such as the United States Greenback, to pay for military expenditures. They could also set the terms at which they would redeem notes for specie, by limiting the amount of purchase, or the minimum amount that could be redeemed.

By 1900, most of the industrializing nations were on some form of gold standard, with paper notes and silver coins constituting the circulating medium. Governments too followed Gresham's Law: keeping gold and silver paid, but paying out in notes.

Paper money era

A banknote (more commonly known as a bill in the United States and Canada) is a type of currency, and commonly used as legal tender in many jurisdictions. With coins, banknotes make up the cash form of all modern money.

Modern currencies

To find out which currency is used in a particular country, check list of circulating currencies.

Nowadays, the International Organization for Standardization has introduced a three-letter system of codes (ISO 4217) to define currency (as opposed to simple names or currency signs), in order to remove the confusion that there are dozens of currencies called the dollar and many called the franc. Even the pound is used in nearly a dozen different countries, all, of course, with wildly differing values. In general, the three-letter code uses the ISO 3166-1 country code for the first two letters and the first letter of the name of the currency (D for dollar, for instance) as the third letter.

The International Monetary Fund uses a variant system when referring to national currencies.

For exchange rates, see exchange rate and table of historical exchange rates.

Privately issued currencies

From the earliest times token coins were issued by companies in remote parts of the world to overcome the shortage of circulating currency.

Several large companies issue points to their customers, to be redeemed for products and services produced by that company. Often, a network of companies will join to share in the offering and redemption of points. While these can hardly be considered stable currency systems, they present many of the same features as "legitimate" currency: they are a store of value, issued in discrete units; they are controlled by a central issuing authority; and they have varying rates of exchange with other forms of currency. For example, frequent flyer miles can be bought using U.S. dollars.

  • Casino token: Chips are used in wagering for various reasons - mostly to make it easier to recognize or count the amount of a wager by eye, or (as in roulette or craps) to distinguish wagers belonging to different players that by necessity must be played near each other.
  • Alternative currency: A currency such as the Liberty Dollar that is intended to replace or compete with a national currency.
  • Digital gold currency: Privately issued digital currency backed by gold
  • Frequent flyer miles: A type of private currency, different versions of which are issued by most major airlines to encourage customer loyalty. Other customer loyalty incentives have followed this model, including points systems offered by soft drink manufacturers such as PepsiCo.
  • Subway tokens, issued by city transit authorities, can be considered a highly specialized form of currency.
  • Digital public transport currency, stored on a smart card and sold in exchange of real money.
  • Scrip: A type of private currency where a certain value is captured, and used to purchase goods from a company. Examples of scrip include gift certificates, gift cards, and Disney Dollars, Canadian Tire Money and more recently Microsoft Points on the Xbox Live Marketplace. However, scrip is not considered a currency in itself, but merely a store of value, denominated in another currency.
  • Coupons: are a form of currency that is recognized by businesses, not to purchase a product or service, but to deduct from the total cost, promote benefits, rebates or discounts. Coupons are primarily used as a marketing tool.

Local currencies

In economics, a local currency is a currency not backed by a national government, and intended to trade only in a small area. Advocates such as Jane Jacobs argue that this enables an economically depressed region to pull itself up, by giving the people living there a medium of exchange that they can use to exchange services and locally-produced goods (In a broader sense, this is the original purpose of all money.) Opponents of this concept argue that local currency creates a barrier which can interfere with economies of scale and comparative advantage, and that in some cases they can serve as a means of tax evasion.

Local currencies can also come into being when there is economic turmoil involving the national currency. An example of this is the Argentine economic crisis of 2002 in which IOUs issued by local governments quickly took on some of the characteristics of local currencies.


Proposed currencies

World currency

In the foreign exchange market and international finance, a world currency or global currency refers to a currency in which the vast majority of international transactions take place and which serves as the world's primary reserve currency.

United States dollar and the euro

File:DOLLAR AND EURO IN THE WORLD.svg
Comparison of worldwide use of the U.S. dollar and the euro

Since the mid-20th century, the de facto world currency has been the United States dollar. According to Robert Gilpin in Global Political Economy: Understanding the International Economic Order (2001): "Somewhere between 40 and 60 percent of international financial transactions are denominated in dollars. For decades the dollar has also been the world's principle reserve currency; in 1996, the dollar accounted for approximately two-thirds of the world's foreign exchange reserves" (255).

Many of the world's currencies are pegged against the dollar. Some countries, such as Ecuador, El Salvador, and Panama, have gone even further and eliminated their own currency in favor of the United States dollar.

Since 1999, the dollar's dominance has begun to be undermined by the euro, that represents a larger size economy, with the prospect of more countries adopting the euro as their national currency. The euro inherited the status of a major reserve currency from the German Deutsche Mark, an since than its contribution to official reserves has risen continually as banks seek to diversify their reserves and trade in the eurozone continues to expand.[2]

Similar to the dollar, quite a few of the world's currencies are pegged against the euro. They are usually Eastern European currencies like the Estonian kroon and the Bulgarian lev, plus several north African currencies like the Cape Verdean escudo and the CFA franc.

As of December 2006, the euro surpassed the dollar in the combined value of cash in circulation. The value of euro notes in circulation has risen to more than €610 billion, equivalent to US$800 billion at the exchange rates at this time.[3]

History

Spanish Dollar: 17th-19th centuries

In the 16th and 17th century, the use of silver Spanish dollars or "pieces of eight" spread from the Spanish territories in the Americas eastwards to Asia and westwards to Europe forming the first ever [citation needed] worldwide currency. Spain's political supremacy on the world stage, as well as the coin's quality and purity of silver, made it become internationally accepted for over two centuries. It was legal tender in Spain's Pacific territories of Philippines, Micronesia, Guam and the Caroline Islands and later in China and other Southeast Asian countries until the mid 19th century. In the Americas it was legal tender in all of South and Central America (except Brazil) as well as in the U.S. and Canada until the mid-19th century. In Europe the Spanish dollar was legal tender in the Iberian Peninsula, in most of Italy including: Milan, the Kingdom of Naples, Sicily and Sardinia, as well as in the Franche-Comté (France), and in the Spanish Netherlands. It was also used in other European states including the Austrian Hapsburg territories.

19th - 20th centuries

Prior to and during most of the 1800s international trade was denominated in terms of currencies that represented weights of gold. Most national currencies at the time were in essence merely different ways of measuring gold weights (much as the yard and the metre both measure length and are related by a constant conversion factor). Hence some assert that gold was the world's first global currency. The emerging collapse of the international gold standard around the time of World War I had significant implications for global trade.

In the period following the Bretton Woods Conference of 1944, exchange rates around the world were pegged against the United States dollar, which could be exchanged for a fixed amount of gold. This reinforced the dominance of the US dollar a global currency.

Since the collapse of the fixed exchange rate regime and the gold standard and the institution of floating exchange rates following the Smithsonian Agreement in 1971, currencies around the world have no longer been pegged against the United States dollar. However, as the United States remained the world's preeminent economic superpower, most international transactions continued to be conducted with the United States dollar, it has remained the de facto world currency.

Only two serious challengers to the status of the United States dollar as a world currency have arisen. During the 1980s, for a while, the Japanese yen became increasingly used as an international currency, but that usage diminished with the Japanese recession in the 1990s. More recently, the euro has competed with the United States dollar in usage in international finance.

Hypothetical single "true" global currency

An alternative definition of a world or global currency refers to a hypothetical single global currency, as the proposed Terra, produced and supported by a central bank which is used for all transactions around the world, regardless of the nationality of the entities (individuals, corporations, governments, or other organisations) involved in the transaction. No such official currency currently exists for a variety of reasons, political and economic.

There are many different variations of the idea, including a possibility that it would be administered by a global central bank or that it would be on the gold standard [1]. Supporters often point to the euro as an example of a supranational currency successfully implemented by a union of nations with disparate languages, cultures, and economies. Alternatively, digital gold currency can be viewed as an example of how global currency can be implemented without achieving national government consensus.

Arguments for a global currency

Some of the benefits cited by advocates of a global currency are that it would:

  • Eliminate speculation in Forex since there is a need for a currency pair to speculate.
  • Eliminate the direct and indirect transaction costs of trading from one currency to another[2].
  • Eliminate the balance of payments/current account problems of all countries.
  • Eliminate the risk of currency failure and currency risk.
  • Eliminate the uncertainty of changes in value due to exchange-caused fluctuations in currency value and the costs of hedging to protect against such fluctuations.
  • Cause an increase in the value of assets for those countries currently afflicted with significant country risk.
  • Eliminate the misalignment of currencies.
  • Utilize the seigniorage benefit and control of printing money for the operations of the global central bank and for public benefit.
  • Eliminate the need for countries or monetary unions to maintain international reserves of other currencies.

Arguments against a single global currency

Many economists argue that a single global currency is unworkable given the vastly different national political and economic systems in existence.

Loss of national monetary policy

With one currency, there can only be one interest rate. This results in rendering each present currency area unable to choose the interest rate which suits its economy best. If, for example, the United States were to have an economic boom while the European Union slumped into a depression, this period would be eased if each could choose the interest rate which best fitted its needs (in this case, a relatively high interest rate in the former, and a relatively low one in the latter).

Political difficulties

In the present world, nations are not yet able to work together closely enough to be able to produce and support a common currency. There has to be a high level of trust between different countries before a true world currency could be created. A world currency might even undermine national sovereignty of smaller states.

A currency needs an interest rate, while one of the largest religions in the world, Islam, is against the idea of interest rate. This might prove to be an unsolvable problem for a world currency, if religious views concerning interest do not moderate.

An interest rate is one of the fundamental laws of a market economy. Depositing of money is important because it lets the money be lent out where it is needed most, for instance when establising a new company or buying a house for a family. In order to get strangers to lend each other money the creditors needs to get compensated for their risk taken and their good will. If not they would just spend the money, or keep it or invest it somewhere else. If you want to be without interest rate you need other ways to compensate depositors, and the compensation would have to be in the form of money, in other words an interest-look-alike.

Economical difficulties

Some economists argue that a single world currency is unnecessary, because the U.S. dollar already provides many of the benefits of a world currency while avoiding some of the costs [3].

If the world does not form an optimum currency area, then it would be economically inefficient for the world to share one currency.

A world currency would not allow for adjustments by national central banks to accommodate local economic problems. A single currency can only have a single interest rate. However, different regions in the world, with varying rates of economic growth, may require different interest rates.

As an example, consider a hypothetical Country A that is a petroleum exporter and a hypothetical Country B that is an oil importer. If the price of oil goes up, this is an advantage for Country A, and a disadvantage for Country B. If the oil price goes up, this stimulates the economy of Country A; to avoid "overheating" the economy, Country A's central bank would support increasing the interest rate of Country A. At the same time, Country B's economy is damaged by the increased price of oil, and Country B's central bank would seek to lower the interest rate in order to stimulate the economy. However, Country A and Country B would be unable to do this if they shared the same currency.

Other Arguments

Some Christians believe that a single world currency is a sign of the End Days, when the world is united under a One World Order [citation needed].


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