The History of Money – Part IV

So far in this series we have traced the history of money from simple barter systems to commodity money. This article will discuss further advances to the monetary system such as paper money, trade bills, and banknotes.

Paper Money

The concept of paper money originated in the Song Dynasty in China in the 11^th century, to replace heavy and bulky copper coins in transactions. Paper money only started to appear in Europe in the 13^th century, after travelers such as Marco Polo observed it. The image below shows an example of the huizi bank note, issued in the year 1160 by the Song Dynasty.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Originally, paper money issued by the government had geographic limitations as well as a time limit of three years, however, in the Yuan Dynasty, in the 13^th century, paper money began to be printed without limitations on its duration.

Trade Bills of Exchange

As trade advanced in scale and geographical area in Europe from the 13^th century, goods began to be sold for a bill of exchange. Trade bills are promissory notes similar to the concept of an IOU but with a promise to pay and detailed terms for the timeline of payment, and consequences of not meeting the payment.

Using a bill of exchange allowed for a merchant to store their material wealth with a third party agent such as a bank, rather than carrying it with them, which could be incredibly risky.

As an example, a written record of a transaction in Germany in 1724, shown in the picture below provides instructions from the buyer (John Emerson) to a third party agent (Austin Goodwin, a merchant in England) to pay the seller (Joachim Coldorph) £380 in three months.

 

In addition to the obvious security benefits of this transaction, it also created a form of credit. Continuing from the example above, if Joachim Coldorph received the note and did not want to wait for three months to receive the money, he could (assuming the merchant, Austin Goodwin was known and trustworthy), use the note to either purchase goods, or sell the note to a fourth party. If he chose to sell the note prior to it being due, he would need to do so at a discount to its value, given that it represented a payment in the future, not immediately.

Banknotes

A banknote is, like a bill of exchange, a promissory note. However, a banknote is issued by a bank and is payable to the bearer of the note on demand. Originally, bank notes were issued by commercial banks in Europe and America.

However, due to the significant number of banks (there were over 5,000 different types of bank notes in America in the 19^th century), and their varying credit quality, not all bank notes were universally accepted.

As a result, in the year 1694 the Bank of England was granted the sole right to issue bank notes in England. Similarly, in 1913, in the United States, the Federal Reserve Bank was granted the same rights in the United States.

Representative Money

Banknotes and trade bills of exchange were originally considered a type of representative money. Namely, they could be converted into a precious metal, typically gold or silver at an issuing bank on request. The fact that these notes had no intrinsic value by themselves is an important difference from commodity money, which is money that itself has intrinsic value. This divergence will be discussed along with the development of fiat currency in The History of Money Part V.