How is Money Really Created

Money makes the world go round!!!

Even as a kid, on some unconscious level, you felt it to be true. Remember fighting over who got to be the banker in Monopoly? Sure you do – everyone wanted to be the bank. That’s because it’s instinctual and powerful to want to control the money (and it was way easier to slip a $20 bill into your own hand). Basically, money equals power! These small, sometimes colorful, pieces of paper have severed families, started wars, fed nations and rebuilt lives. People will do questionable moral things just to get their hands on a few bucks.

source: http://www.socalmonopoly.com

source: http://www.socalmonopoly.com

CRAZY!!!!

When did this money craze start?

Why was money created?

How do banks create money today?

To better understand money creation, we have to start from the very beginning. Money was created out of a need to easily trade goods. Like today, it was used to represent the value of the goods and/or services being sold. Today, money represents so much more that just that – it’s symbol of power, wealth and health. Understanding the evolution of money helps to make “cents” (cheesy pun definitely intended) out of its role today.

From Metal to Gold – How Is Money Created

People have always been trading. Whether it was exchanging furs for tobacco, leather for wool, or salt for pepper, trade has always been the pillar of the world economy. However, it wasn’t until the discovery of metal that money was actually formed.

Trading goods for goods, however, is cumbersome. Imagine lugging around goats to trade for produce – not very portable. As a result people started making coins out of metal and trading them for the goods they needed. Each metal piece was given a value according to its size and weight. As time passed and trade grew, even medal coins became too heavy to lug around. Hence, the coins grew to represent the value of whatever was being bought and sold. And just like that, money was created! For example, say a goat is worth 25 pieces of metal. As opposed to giving the vendor 25 metal coins, which is both heavy and annoying, they created One coin that was valued at 25.
Trading with metal went on for some time, until the discovery of gold. Once discovered by minors, gold was considered the most valuable of all metals. Because of its perceived value, people only wanted to trade in gold. They went crazy for the stuff and started making bricks and coins out of it to facilitate trade. Eventually all other forms of metal currency became obsolete, making gold the universal value of money.

via GIPHY

The Paper Trail

For years, gold continued to be the main currency of trade. However, people started getting paranoid. They realized that it wasn’t safe walking around with their gold pieces on them. It was easily visible, and hence, easily stolen. People needed a safe place to store their gold; somewhere it would be protected but easily accessible. This led to the creation of banks.

The first banks were initially known as goldsmiths, but their function was the same. People would give their gold pieces to the “bank” and in return were given paper receipts declaring the amount of gold they had in their account. In return, these bankers would charge the depositors a little bit of the gold as a fee for looking after their prized possession. The receipts that the bank would give the depositors were smaller and easier to carry. Eventually people realized these papers could be used for trade as well, giving birth to the paper money we know today.

Think about it. If you have a piece of paper that is worth 10 gold pieces, and you come across a fur coat that costs 10 gold pieces, you can just trade that piece of paper for the coat. Over time, that piece of paper was divided into many pieces of paper with smaller values to make trading more efficient. And as more and more people started carrying around paper instead of gold pieces, paper money was the currency being used for trade.

Back to the Future

back to the future

source: www.newscientist.com/

Well, almost. Backing money was with gold was going great, until the market crashed in 1929. During the great depression, people panicked and insisted on recouping their gold from the banks (this gold was represented by the paper money we spoke about earlier). One problem…..there was not enough gold to repay all the people that wanted their gold back. This caused the dollar to crash and people’s faith in money destroyed.

Why did the banks not have enough gold?

Didn’t people leave it there for safekeeping?

Unfortunately for these people, the banks had loaned this gold to other people in return for interest. Hence, when the original owners came to reclaim their gold, there was none to be had.

The country went into a state of panic!

Eventually, the government stepped in to decree that paper money would no longer be backed by gold.

WHAT? What would it be back by then?

It turns out, that it would be backed up by something more “solid” than gold – faith. Under this new idea, the value of money would be whatever the government said it would be, and you just had to trust it blindly. Leading to the creation of money we know and trust today.

The Present – Who wants to be a millionaire?

via GIPHY

This brings us back to our current state of affairs. The current dollar bill that we use in trade and business today is backed by nothing but the word of the US government. They can print as many or as few new bills as they want.

So why can’t the Federal Reserve create more money and make all of us millionaires?

The answer is that it would open Pandora’s box. Imagine a world where everyone was a millionaire. Sure, the stock markets would rise like crazy as more and more people put their money into it and life would be great – for a while.

If everyone in the US had endless amounts of money, they would be willing to pay any price to buy that car or that house, or that stock. Everybody would keep outbidding everybody else, driving prices up higher and higher. Inflation would be so high that money wouldn’t be worth anything. Look at Zimbabwe for example. They created more money, and had to pay millions just for a carton of eggs – Their money was practically worthless.

At the end of it all, creating new money is a double-edged sword. It does push up the stock market and spending, but it also pushes up the prices of everything else. Over time, as things become more and more expensive and money becomes less and less valuable, we end up right where we started.

So How Is Money Created And Why Money Matters To You:

  1. Money is not backed by anything anymore. The amount of money in circulation is not backed by any actual material or resource.
  2. Money is a representation of some sort of value that is used to buy goods and services from individuals and/or companies.
  3. Money should not be endlessly created as it makes everything less valuable.
  4. When money is created and injected into the economy, stock prices rise.
  5. When money is taken out of the economy, it causes stock prices to fall.

SEE, learning about history isn’t that bad!!!

Besides, it’s important to learn about where you came from, in order to get where you want to be. Meaning it’s important to understand money, so hopefully you can make A LOT of it!

With that strategy in mind, become a better investor by learning about “The History of the Financial Industry” at Wall Street Survivor.

 

 

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