ECON120 Study Guide

1a. Examine benefits from and risks to a precious metal coin-based monetary system

• What was used as money before coinage?
• Why did coinage advance the monetary system?
• What were the disadvantages of a non-coin system of trade?
• What is money velocity?
• How did coinage affect money velocity?

Early coins were made with metals considered precious, durable, and rare. They were fungible, or interchangeable, money. When two things are fungible, they have an equal and undifferentiated value, like how we think of a one-dollar bill as equal to any other one-dollar bill. They were also divisible: they represented a small value and could be used in minor transactions or amassed for larger ones. The best coins were difficult to forge. Counterfeiting could undermine the value of a currency, so mints had to create coins with difficult-to-mimic engravings.
 
Money velocity measures how quickly money changes hands. It's the speed at which money moves from one owner to the next, and only with sufficient speed can money help human beings trade to their fullest potential. Gold and silver coins accelerated money velocity relative to metal bars and nuggets of non-standardized weights. Thousands of competing coins were used, which meant that an equivalency conversion had to occur alongside practically every transaction between people of different geographies. This presented major challenges to money velocity and international trade because standards for weights and purities varied worldwide.
 
Moneychangers specialized in this requisite conversion and became integral to all trade. They were tasked with trafficking hundreds or even thousands of different coins to facilitate every type of international exchange. This profession exists today in the form of foreign exchange brokers.
 
To review, see The First Coins.

1b. Identify some ancient coins and their key characteristics

• When did coins first appear?
• What is currency devaluation?
• What was the significance of the florin?
• Why did the florin become Europe's reserve currency?

Greek historian Herodotus traced the first signs of gold and silver coins to Lydia, modern-day Turkey, around 700 BC. Evidence of gold and silver jewelry being used as money goes back tens of thousands of years. The coins of Lydia were embossed with an image of a roaring lion and weighed 126 grains, which is about 8 grams. Because all coins had a precise amount of gold, they could then be used as a unit of account. Coins with consistent weights changed money forever. They eliminated the need to weigh and test the purity of every piece of metal before two parties could transact, and this seemingly straightforward adaptation ultimately transformed the world of trade.
 
In the second century, under the rule of Marcus Aurelius, the denarius coin weighed about 3.4 grams. It contained about 80% silver, which was already reduced from its 98% purity when Augustus Caesar declared himself the first Emperor of Rome three centuries prior. When the Roman Empire reduced the precious metal content of the denarius while leaving its name and value unchanged, it caused currency devaluation. This can lead to unstable prices. By the end of the third century, the denarius was 5% silver.
 
The northern Italian cities of Florence, Venice, Genoa, and Pisa established themselves as city-republics after breaking free from their feudal overlords during the eleventh century. The florin earned a reputation of being unchanging, as its denomination did not change for centuries. Historically, precious metal coins were durable, divisible, and portable, but with governments constantly reducing the purity of their coins, no coin existed with multigenerational credibility. For four centuries, the florin maintained an unchanged weight and purity, about 3.5 grams of pure gold. Florins proved to be good collateral and could be pawned to borrow silver coins for smaller transactions.
 
To review, see The First Coins.

1c. Explain the advantages and disadvantages of bimetallism

• Why were gold and silver both used as money?
• What were the advantages of silver as a medium of exchange?
• What were the advantages of gold as an international settlement tool?

Bimetallism allowed for two separate metals to be used as money. Silver is a more abundant metal in the Earth's crust than gold is and has historically served as the money of common people and daily transactions. Gold is more desired but didn't suffice for daily use; a single florin was worth more than a week of labor from the average worker. The gold and silver dichotomy complicated the formation of a unified monetary system until the end of the nineteenth century.
 
To review, see The Florin.

1d. Compare final settlement and deferred settlement

• What is deferred settlement?
• Why would a merchant agree to a deferred settlement?
• Why would a consumer request a deferred settlement?
• Why is deferred settlement a form of credit?

Deferred settlement takes place when one party unambiguously promises to pay another later. At that time, final settlement occurs, and the owed party receives ultimate payment, historically gold and silver. These promises, or credits, were made as a way for merchants to reduce the risk of international coin transfer.
 
 

Unit 1 Vocabulary

This vocabulary list includes terms you will need to know to successfully complete the final exam.
 

• bimetallism
• currency devaluation
• deferred settlement
• divisible
• final settlement
• fungible
• money velocity