Money & Credit
What Money Is, Why It Exists, and How It Shapes the Economy**
Purpose
Explain what money actually is, why societies use it, and how changes in the supply of money influence prices, behavior, and the overall economy.
Core Principle
Money = A Measurement System for Value**
Money is not wealth.
Money is the tool we use to measure, store, and exchange value.
Money exists to:
make trade easier
coordinate economic activity
track value across time
Modern economies cannot function without a stable, trusted form of money.
The Three Functions of Money
All money — from gold coins to digital dollars — serves three essential purposes:
1. Medium of Exchange — How People Trade
Money is what people use to buy and sell goods and services.
It replaces:
bartering
complex trades
in-kind exchanges
Without a medium of exchange, trade slows and the economy shrinks.
2. Unit of Account — How We Measure Value
Money provides a consistent measurement system.
It allows people to compare:
wages
prices
profits
costs
investments
Without a unit of account, economic decisions become impossible.
3. Store of Value — How We Preserve Purchasing Power
People save money expecting it to maintain value over time.
Money stores value only when:
inflation is low
the currency is trusted
the financial system is stable
When money loses value, behavior changes — saving falls, spending rises, and instability increases.
How Money Enters the Economy
Modern money is created through:
the central bank
the banking system
government spending
Money enters circulation when:
the central bank buys assets
banks issue loans
the government runs deficits
Money leaves circulation when loans are repaid or the central bank reduces its balance sheet.
Why Prices Rise or Fall
Inflation happens when:
money supply grows faster than goods
demand exceeds supply
production bottlenecks occur
expectations shift upward
Deflation happens when:
demand falls
credit contracts
money supply shrinks
confidence collapses
Inflation and deflation are not just price changes — they shape behavior across the entire economy.
The Money Equation
The relationship between money and the economy can be expressed as:
Prices = Money Supply ÷ Real Output
When money grows faster than output → prices rise.
When output grows faster than money → prices fall or stay stable.
What This Explains
Understanding money clarifies:
why inflation erodes purchasing power
why stable money supports growth
why shortages cause price spikes
why deflation threatens recessions
why currency trust is essential
why governments fight inflation aggressively
why economic booms often follow rapid money expansion
Why This Comes First in the Money & Credit Section
Before learning how credit works, you must understand:
money is the foundation
money is the measurement system
money shapes prices
money influences every household and business decision
Credit builds on money.
Policy influences money.
Markets respond to money.
Money is the baseline of the entire monetary system.