Money, Credit, and Trust

Although reputed to be the root of all evils, money is perhaps the greatest invention of humankind considering its impacts on the way we do business. Money serves two fundamental purposes: convenience and trust, without which the world could never have developed into the modern economy of today.

During the barter era of old times, you consumed only what you could produce. If you were fed up with chicken meat, you had to find a fisherman who wanted to trade fish with your chicken. Money solved this problem of inconvenient bartering. It gradually became the medium of exchange for all kinds of goods and services in the marketplace. Better still, money could be carried around easily and used flexibly.

The real problem to overcome was trust. Why should you give up your chickens for the money that nobody else might accept later? It followed that the money must be standardized for recognition and acceptance. Then who had the authority to enforce the standardization and acceptance? This responsibility naturally fell on the shoulders of the tribal chief, the high priest, or the village elders in early societies. As government developed later, it assumed the authority for standardizing and issuing money not only for convenience and trust, but also for the necessity of order and control.

Nevertheless, a government cannot master absolute trust due to the possibility of mismanagement, corruption, decay, or even total collapse. So precious metals were used in the form of coins or pieces of silver or gold based on weight. Paper money was later introduced to supplement the limited quantities of precious metals in circulation. To overcome the problem of trust, the paper money printed was backed up by gold. This system is known as the gold standard that lasted until the early 1970s when President Nixon severed the tie between gold and the US dollar.

Nowadays, precious metals no longer support paper money. The trust hinges on the country with a strong economy whose government issues the paper money. No wonder the US dollar, the Euro, the Japanese Yen, and lately the Chinese Renminbi have risen to become international currencies. The strength of an international currency vis-à-vis  the others depends on the economic performance of the money-issuing country. The trust can still be undermined if the issuing country is going through economic decline.

Despite its shortcomings, financial credit qualifies as another great monetary invention. It fulfills yet one more purpose: the ability to use future money called a credit line. Credit in the business world developed earlier than credit for the consumers. The latter only became popular beginning in the 1950s with the introduction of the credit card. The credit system places even more emphasis on trust that also takes into account an individual’s spending habit and his/her ability to repay. Since precious metals are becoming scarce, real property has been commonly used such as a house, a piece of land, or a business as collateral for credit. The problem of trust still remains. You may run away with the credit money, but you must leave your real properties behind.

In the modern system of paper money, credits, and other recent creations such as credit default swaps, the financial world has become very complex and confusing. The fundamental problem of trust never goes away. The banks do not trust the customers so they require real properties as collateral for credit. Should the people trust the banks? God forbids! Look at the mess they have created since the financial meltdown of 2008. Should the people trust the government to regulate the banks? It depends on how much integrity the government has. Given existing level of corruption, the banks are always welcomed to find a way to influence government policies and regulations in their favor.

In conclusion, the danger always exists that some people will abuse the system and run away with our money. Despite all the sophistication built into government regulations and the financial system, there is the likelihood that a big financial crisis will strike every now and then. For the common person, it pays to be prudent with your own money.

(March 2012)

This entry was posted in Business/Investment, Economics/Politics. Bookmark the permalink.

One Response to Money, Credit, and Trust

  1. Neal Helgren says:

    You have remarked very interesting points! ps decent internet site.

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