Fiat currencies in connection with our banking system have numerous disadvantages. The system is prone to bank runs, leads to an unstable economy and constant inflation; to name just a few. The aim of this article is to explain how our current monetary system works. To begin, we will explain how money and the banking system came into existence. We will then dive into important milestones of monetary history. At the end of this article we will illustrate how individual savers can protect themselves from these shortfalls by relying on real instead of fake money.
Now let us start by looking at the question of how money came into existence and what stages it went through in its development. Historically, anything a person needed, he created himself. People were self-sufficient. Economic interaction was more or less unnecessary. Over time, people realized that some people are better performing specific duties than others: So they decided to divide labor. Everyone was assigned a specific task (One what he was best at). This increased economic output and in general terms, everyone became better off. This transition of how work was performed in an economy made trade between individuals a necessity; therefore barter became commonplace.
Barter worked generally well: The shoemaker for example, could concentrate on making shoes and rely on trade with the baker or butcher to put food on his family’s table. Barter, however, also had disadvantages. To elaborate lets continue with the example of our shoemaker. After trading with the butcher the previous day, the shoemaker goes to the butcher again the next day. He wants to trade a new pair of shoes for some more meat. The butcher however, doesn’t require shoes on a daily basis; today instead, he requires a new knife to cut his meat. The consequences of such a scenario result with the shoemaker having to first trade in his shoe for a knife, then go to the butcher to trade it for some meat. As you can image, barter requires a long chain of transactions before one gets what one really wants. Another problem with barter is the missing divisibility of some goods. Let’s assume that the “exchange rate” of a house to a shoe is 1:1’000; the shoemaker cannot buy 1/1’000 of house and the person selling a house does not really have use for 1’000 pairs of shoes.
These disadvantages of barter led the market participants to search for a medium of exchange that would be accepted by all participants; and was therefore highly liquid. Between 9000 and 1000 B.C., cattle were used as such a medium of exchange. It was easily transportable; and provided not only meat when slaughtered, but also a daily “return” in the form of milk. This form of “money” was practical but still had the disadvantage that it wasn’t easily divisible. Furthermore, when the “nomad lifestyle” was slowly given up and people started to settle down in cities etc., holding this from of money became increasingly complicated.