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With a deep passion for learning and knowledge, Chris is an avid enthusiast of mathematics, computer science, physics, philosophy of mind, and economics. If you have any questions or comments about what you read on this website, feel free to email him at: NoSpam@ChristopherLind.Com (Replace NoSpam with Chris) Article: The origin of Money 6-12-2005

What is Money? Part I: The origin of Money

Money exists as a convenience tool to solve the big problem associated with barter.
This problem is that not everybody is going to want to trade with you.

For example, say you have a bag of apples and you want one of Bob's baseball cards. If Bob does not like apples, no trade can take place. To get Bob's apples, you must find out what Bob does want and trade your apples for that item. Say Bob really likes canned spam. You must then find a person who likes canned spam and is willing to trade for apples.

You personally may hate spam, but if you want the baseball cards badly enough, you'll trade apples to get the spam. In other words, you value the spam not for its own sake, but because it can be used to get your baseball cards.

This process of trading for things you don't want in order to get what you do want has a name. It is called Indirect Exchange.

As you might imagine, indirect exchange can be a real hassle. In the course of your day to day bartering, if you notice that people tend to prefer spam in trade over other items, you will begin trading you own goods and services for spam. You would do this, not because you like spam, but because you know that spam can be more readilly traded for what you do want, than what you could obtain by directly bartering with your own goods and services.

This sets up what is known as a positive feedback loop. Increased use of spam in barter, causes even more people to begin trading their goods and services for spam, not because they like spam, but because they know that the spam can be readilly traded for what they do want. This causes even more people still to begin trading and bartering for spam, until finally the whole city you live in is bartering and trading, not for what they do want, but for spam. They then take the spam and trade for what they do want.

When this happens, money has been born. The money in this example is spam. Historically, gold and silver have emerged as monies by the same process.

Webster's dictionary defines the word commodity as "An economic good", and lists products of agriculture and mining as examples of commodities. In short, a commodity is a tangible, physical good that people value for its own sake. Spam, gold, and silver are all commodities. The "spam" money in the above example is also known as a commodity money, because it is nothing more than a tangible, physical good that people have been trading with all along.

There are 4 conditions that a commodity must meet in order for a "commodity money" positive feedback loop to occur. These conditions are all driven by convenience, they are:

1) An existing, large number of people already value and accept the commodity in barter for its own sake. In the above example, a large number of people just happened to LIKE spam!

2) Divisibility: A commodity such as gold, silver, or spam can be easilly divided into larger and smaller amounts for different size transactions.

3) Durability: The commodity is not going to deteriorate in the owners hands before they have a chance to spend it. Gold and silver are prime candidates. I suppose spam could be canned.

4) High unit of value: The commodity has a high percieved value per unit of weight. This makes it possible to carry a large amount of wealth with you wherever you go. Spam does not meet this criterion very well at all, but gold and silver certainly do. A few ounces of gold is very expensive.

Once these conditions are met within a community, a commodity money will soon come into existence.

Next: The origin of Banks and Paper Money

© 2007 Chris Lind