Money: Functions and History

Imagine there were no money. At break time, you want your classmate's chocolate bar – and offer her your cheese sandwich in return. But she doesn't like cheese sandwiches. So first you have to find someone who will swap your cheese sandwich for something she does want. Good luck.

That is exactly the problem with pure barter: a swap only works if both sides offer exactly what the other person wants right now. Experts call this the double coincidence of wants – and it is rare. A carpenter who needs bread would have to find a baker who happens to want a table at that very moment.

Money solves the problem: the carpenter sells her table to anyone at all – and uses the money to buy bread, from any baker. Money is the tool that breaks a swap down into two simple steps: selling and buying.

In this module you're starting Topic Block C “Money, Banks, Financial Literacy”. From Module 3 you already know the flow of money that circulates in the economic cycle – now you'll take a look at money itself: what it does, where it comes from, and why of all currencies it's the Swiss franc (CHF) that sits in wallets in Liechtenstein.

Money is more than “something to pay with”. It fulfils three functions – and only all three together make it so useful:

1. Medium of exchange: Money is accepted by everyone. You can spend your pocket money at the kiosk, in an online shop or at the swimming pool – nobody asks whether you have a cheese sandwich to offer instead. This works because everyone trusts that they, too, will be able to spend the money again.
2. Store of value: Money carries value into the future. You can put your wages from your summer holiday job into your account and buy a moped with them next year. A basket of strawberries would have gone off by then – money doesn't. This function, however, stands or falls with the money staying stable: if it loses value quickly, it's no longer any good for storing value. More on that in a moment.
3. Unit of account (also: measure of value): Money makes values comparable. If one bike costs CHF 600 and the other CHF 300, you can see straight away: the first one is twice as expensive. Without a common measure you would have to calculate like at a barter market: how many cheese sandwiches is a bike worth – and how many chocolate bars a cheese sandwich?

Memory aid: money is a payment helper, piggy bank and yardstick all in one.

Money wasn't invented in a single day – it developed over thousands of years. Each new form solved a problem of the old one:

• Barter: Goods for goods – cumbersome, as you've seen.
• Commodity money: Sought-after goods such as salt, shells or cattle became a generally accepted means of payment: everyone took them because they were valuable to everyone. In ancient Rome, the word for money – “pecunia” – comes from the word for cattle. But: cattle are hard to transport, salt gets wet, shells break.
• Coins: Around 2700 years ago, rulers in the kingdom of Lydia (in modern-day Turkey) had coins minted from precious metal for the first time: durable, countable, worth the same everywhere. The idea spread quickly all around the Mediterranean.
• Paper money: In China, people were paying with notes as early as around 1000 years ago; in Europe from the 17th century. The trick: the value is no longer in the material. A note is just printed paper – it becomes valuable through the trust that everyone will accept it.
• Deposit money: With modern banks came money that exists only as numbers in accounts. When your wages are “transferred”, no banknote goes anywhere – only numbers change. Today, the largest part of all money exists in this form.
• Digital payment: Card, phone, app – deposit money on the go. The most recent arrivals are cryptocurrencies such as Bitcoin; you'll take a closer look at what's behind them in Module 13.

The common thread of this journey: money kept becoming lighter, more practical and more abstract – and with that, the trust that holds it all together kept becoming more important.

Liechtenstein has no currency of its own – it's the Swiss franc that sits in people's wallets. There is a solid piece of history behind this:

Until the 1920s, people in Liechtenstein paid with the Austrian krone. After the First World War, the krone lost value dramatically because of the enormous inflation in Austria – savings melted away. Here you can see a function of money put to the test: money that constantly loses value is no longer any good as a store of value – and soon nobody wants to accept it as a medium of exchange either. In 1924, Liechtenstein therefore introduced the stable Swiss franc. In 1980, Liechtenstein and Switzerland officially sealed their cooperation in the Currency Treaty (in force since 1981): since then, the franc has also legally been Liechtenstein's currency, and the country belongs to the Swiss currency area.

Why would a country do that? For a small economic area with a good 40 000 inhabitants, a currency of its own would be expensive and risky: it would fluctuate strongly, and the effort of running its own central bank would be enormous. Joining a large, stable currency, on the other hand, brings trust – for the people who save, and for the companies that trade with other countries. Since Liechtenstein and Switzerland are closely intertwined economically anyway (a customs treaty has also existed since 1923), the franc is the logical choice.

By the way: the stability of the franc is looked after by the Swiss National Bank (SNB) – it conducts monetary policy for the entire franc area, and that includes Liechtenstein.