What is money, really?

Three jobs money does

One common way to define money is by the jobs it does. Traditionally, there are three.^1,2

• Store of value. It keeps its value in a fairly predictable way, so you can use it later.^1,2
• Unit of account. Prices are written in it, for example on menus, contracts and price labels.¹
• Medium of exchange. People hold it because they plan to swap it for something else, not because they want it for itself.¹

The three jobs are linked. Something that won't be worth as much tomorrow is less useful for swapping today.¹

Many things have been money

Many different things have been used as money. The list includes cowry shells, barley, peppercorns, gold and silver.³

In some prisoner-of-war camps in the Second World War, cigarettes became the medium of exchange in the absence of money. Even non-smokers took them, because they could swap them for something else later.¹

Money can also fail. In the five years after the First World War, prices in German marks doubled 38 times.¹ Something that cost one mark in 1918 would have cost over 300 billion marks in 1923. Some people in Germany started using other currencies instead.¹

Money today is an IOU

An IOU is a promise to pay someone back later.¹ The Bank of England describes money today as a special kind of IOU, because everyone trusts that other people will accept it.¹

In its 2014 paper, the Bank of England named three main kinds of money: notes and coins, bank deposits, and central bank reserves. Each one is an IOU from one part of the economy to another.¹

• Notes and coins are mostly an IOU from the central bank to the people holding them.¹
• Bank deposits are an IOU from a bank to its customers.¹
• Central bank reserves are an IOU from the central bank to the banks.¹

Why paper money has value

Since 1931, Bank of England money has been fiat money. That means the central bank won't convert it into gold or any other asset.¹

So why is it worth anything? The IMF puts it simply. Fiat money has value because a nation agrees to give it value. Money works because people believe it will.³ The Bank for International Settlements (BIS) says the essence of good money has always been trust that its value will stay stable.²