"Money never made a man happy yet, nor will it. The more a man has, the more he wants.
Instead of filling a vacuum, it makes one."
- Benjamin Franklin.
What is money?
The Greek polymath, Aristotle, offered one of the earliest explanations for money. He surmised money came into existence at the point that people started to depend on one another for survival, keeping what they needed and saving the surplus, which others might find valuable. There needed to be a way to measure the surpluses, a way to quantitatively compare the values of different goods and services so that people could exchange them in a fair manner.
Aristotle defined four main characteristics that made something "good money" (1). First, durability - it had to survive the test of time during exposure to daily life and the elements, and would not fade or corrode over time. Second, portability - it had to be easily transportable from one place to another. Third, divisibility - it had to be easy to separate and re-combine such that breaking it would not affect its value, and all components of a similar weight and size would be equal in value. Fourth, intrinsic value - its value had to be derived from a material that held some kind of value in of itself.
In Aristotle's time, gold was "good money" (1).
The fourth point, intrinsic value, is debatable as to its exact meaning. Although Aristotle was probably thinking about materials of intrinsic value (such as precious metals), at a deeper level the intrinsic value of something is based on its scarcity. For example, air and water, being compulsory for life, have more intrinsic value than virtually anything else that comes to mind, but since both are so widely available, they lack scarcity and would not be good as money.
Using this definition, good money has three main functions (2). First, it must act as a medium of exchange that is widely accepted for myriad goods and services. Second, it must act as a unit of account by attaching a quantifiable value to those goods and services. Third, it must act as a store of value by retaining its purchasing power well into the future. If the chosen form of money does not fulfill all three of these functions, it is not good money.
So, good money must be durable, portable, divisible, and scarce so that it can function as a medium of exchange, a unit of account, and a store of value.
Currently, there are three main forms of money - fiat money, commodity money, and cryptocurrency. Let's discuss each of them.
Fiat money consists of objects (usually paper) that lack intrinsic value, with the money deemed valuable by government decree (the term fiat means "let it be done," in the sense of a decree). Fiat money is centralized, issued by a single government body - for example, the US dollar is issued by the Federal Reserve, which itself is controlled by a small group of bankers. Fiat money is also private, in that all transactions are recorded in a computer database owned and operated by a bank. Since fiat money is centralized and private, it is easily controlled by a relatively small group of individuals.
Fiat money - example, the US Dollar.
Commodity money consists of objects with intrinsic value. It is usually based on precious metals such as gold and silver, but has also historically been based on products like salt, tea, and silk (3). A related form of monetary system is representative money, in which objects lacking in intrinsic value (paper again) are used to represent a commodity with value (such as gold) - an example is the gold standard, which most nations abandoned in the 20th century. Commodities are more difficult for governments to centralize and privatize, but they still can - under a gold standard, the government can devalue or confiscate everyone's gold (4).
Commodity money - example, gold.
Cryptocurrencies are digital assets in which ownership records are stored in a database acting as a public ledger, with strong cryptography used to control the creation of additional money, secure transaction records, and verify who owns what (5). Cryptocurrencies are decentralized, in that no single group or entity produces or owns the currency - for example, Bitcoin is a cryptocurrency that exists on a blockchain, a distributed ledger that exists across many different computer systems, in which the records are linked by cryptography. Bitcoin is also public, with all transactions displayed on the ledger.
Cryptocurrencies - example, Bitcoin.