How Does Money Work?

Imagine you sell milk for a living. You want to buy vegetables for your family. You approach the vendor and offer him milk for vegetables. But it turns out; he doesn’t need milk at the moment but he would buy eggs. You’re out of luck unless you can find another vendor who needs milk nearby. Or you have to find a person who sells eggs so that you can buy eggs in exchange for milk and then exchange the eggs for vegetables. This is time-consuming and complicated.

This is where the money comes in. It becomes a medium of exchange. It must be something you can trade for something else. Both parties in a transaction agree that money has value, so it’s an efficient tool for any trade. Money becomes valuable when everybody agrees to use it. Because money is based on an agreement, the actual currency can be anything. It can be any sort of physical item, or it could be entirely electronic. 

Today, we associate currency with coins or paper notes. However, money has taken many different forms throughout history. In many early societies, certain commodities became a standard method of payment. The Aztecs often used cocoa beans instead of trading goods directly. As far back as 2500 B.C., Egyptians created metal rings they used as money, and actual coins have been around since at least 700 B.C. Paper money didn’t come about until the Tang Dynasty in China, which ruled from A.D. 618-907.

Money has a universal store of value that can be readily used by everyone.  If you sell something for money, you can keep those funds in cash or deposit them into a bank account until you want to buy something later. This is as opposed to the barter system, in which items are directly traded. A farmer would need to trade their goods before they spoil, or else that “money” would be lost entirely.

Imagine how the farmer will have to carry his produce whenever he wants to buy something in a barter system. This problem can also be solved with money. The relatively small size of coins and dollar bills makes it easier to transport and carry.

Money offers us a medium of exchange for goods and services and allows the economy to grow as transactions can happen at a much quicker pace because sellers can easily find a buyer.