What is this fiat money that experts are talking about ?

Junbeel is about 65 km from Guwahati, Assam.

In Jan or Feb, a festival is hosted here – Joonbeel Mela.

The mela is unique – it is a mela to exchange.

Money doesn’t play a role here. People from different parts of Assam come here to exchange goods.

People from the hills, people from the plains – they bring their produce and exchange it.

Barter system!

This mela is hundreds of years old and is going strong even in this day and age.

Barter System

Before our modern age with money, barter was the only way trade was done.

For thousands of years, people exchanged what they had for what they needed.

It is what makes us human.

You have grown a lot of rice. You can’t eat it all. Someone else has many cows and a lot of milk. You both exchange. He gets some rice, you get milk.

But there are a few drawbacks. You have excess rice but you don’t need milk. You need clothes. What now?

You take the milk, give him the rice. Later, you find someone who is willing to take the milk and give you clothes.

As trade and commerce developed, a few things emerged most traded.

Things like milk and rice, more people wanted.

Things like clothes and special tools were needed less often.

So these common things – rice, milk, sheep, etc – they started being treated like money.

People would exchange their commodities and accept say rice even if they didn’t need rice simply because they knew they could easily exchange rice and get what they wanted later.

This made trade easier.

Money just got invented – sort of.

Commodities to Coins

Great, but this still had some drawbacks.

What if the milk goes bad; rice decomposes, sheep runs away or dies?

For any money to be able to store value, it needs to be durable.

This is why metals replaced common commodities like milk and rice.

Iron, copper, tin started being used as currency.

But they rust too.

Silver and gold were discovered. They don’t rust easily. So silver and gold became currency.

As time progressed, the metals were beaten into shapes and became something we use today also – coins.

Certificates

Metal coins were heavy. Think of a wallet filled with Rs 100 in coins. That’s very difficult to store and carry.

People started storing money in certain places or institutions (similar to banks).

When storing money, these institutions would issue a certificate that mentioned how many coins a person had stored with them.

This was proof of storing money.

So when someone would need coins to give to someone else, they’d go with their certificates and give them to the bank.

The bank would give them their coins. The person would take the coins and give it to whoever they wanted to buy something from.

But often, this person who would get the coins would again, come back to the same bank and deposit the coins in his account.

Over the years, people stopped taking out the coins to spend. They would simply give them their own certificate!

Do you realize what happened?

Notes! Notes just got created here.

This is why most notes around the world actually read like a certificate.

Take out a Rs 100 note. It reads, ‘I promise to pay the bearer the sum of one hundred Rupees’, signed by the RBI governor.

People started dealing with these notes.

But still, if you wanted, you could always go to the bank and ask for the actual metal coins.

The paper note has no real value or purpose. But the metal does.

The notes were backed by gold in most countries.

So if you want to a bank with $100, you could ask for $100 worth of gold to be given to you instead of the note.

The money was backed by gold.

In 1971, a historic, monumental change occurred.

The world’s largest economy, the one that practically affects the world – the USA – announced that the US dollar wouldn’t be backed by gold anymore.

They would simply be backed by the US government.

Value was not stored in gold anymore. It was stored as trust in the US government. Trust that the promise the US government is making on its notes will be honored.

Money that isn’t backed by any commodity is called fiat currency.

The US dollar became a fiat currency.

Today, most currencies around the world are fiat currencies.

This was an extremely controversial move. But a move the US needed at the time.

Fiat currencies allow governments better control over the economy.

See, if money is backed by gold (or silver), the government cannot do anything. There can only be as much money in the world as there is gold.

And there isn’t much gold in the world.

With fiat currency, the government can simply declare and create more money (or reduce money).
Why is that important?

When economies suffer, it starts spiraling.

People know things are bad, so they spend less and save more. When spending goes down, the economy suffers even more.

What governments do in such cases is, print more money and give it out to the public – in the form of easily available loans.

With more money in hand, people relax and spend a bit more.

This leads to better economic growth – thus saving the country from going into depression.

In 2008 during the housing crisis, the US economy and practically the world economy was supposedly headed into a collapse.

The US printed money and saved the economy – by triggering growth.

But that wasn’t the last time money was printed.

A massive amount of money was printed again in 2020-21 – when the pandemic struck.

Of course, there are advantages and disadvantages to fiat currency.

But let’s talk about the most relevant disadvantage facing the world right now.

What happens when everybody tries to buy a few things?

Think supply and demand.

The price of that thing goes up!

Inflation

After the recent printing of money, there’s too much money in the system.

But the items of daily use – fuel, food grains, steel, etc – their production is more or less the same as before.

So more money chasing the same items has caused a price rise of everything – inflation!

If $1 could buy 1 liter of milk earlier, now it can buy maybe 900 ml.

It has lost some of its buying power.

This is one of the biggest arguments against fiat money.

History has many examples where some countries printed so much money, they caused hyperinflation.

Read about the hyperinflation in Germany, Hungary, and Zimbabwe.

Savior and Collapse

People who are against fiat currencies say: that because the US has printed so much money, it is losing its value. They even go on to predict a collapse of the US dollar.

Since the world economies are all interconnected, all of this affects most of the world economy practically speaking.

The topic of fiat currency is extremely vast and something even the best people don't fully understand.

It is easy to read the words ‘collapse’ and think the worst is about to hit us.

At the same time, there’s no denying, that money printing did save economies in 2008.

And it has prevented depression during the pandemic – so far.

Fiat currency is loved for its advantages by many economists including Nobel prize winners.

Many economists believe that money printing if done within limits is helpful; and that the US dollar is within safe limits.

There are also those who are only against the excessive printing of money – not fiat currencies as such.

It is an interesting topic – a topic we all should learn more about. Especially given that fiat money runs much of the world today.