BCom 3rd Year Nature Importance Financial Money Study Material notes
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BCom 3rd Year Nature Importance Financial Money Study Material notes Nature of Money Importance of Money in Modern Economy Role of Money in Economic Life Importance of Money in Planned Economy Circular Flow or Money Evils of Money Social Evils Moral Evils Exercise Question Long Answer Question Short Answer Question Objective Type Questions :
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NATURE AND IMPORTANCE OF MONEY
NATURE OF MONEY
It is just a nature of money that serves as means, not as ends. People had been fulfilling their needs through the barter system since ancient times. Invention of money has made this exchange convenient. Today, money plays a crucial role in trade of goods and services, but still it is nothing in itself. Generally these are misconceptions in the mind of people that having money means having everything. For example, people usually think that if one has eyes, one can see everything. But if somebody is asked in a dark room about the things he is able to see he would answer that he is not able to see anything. It means eyes can see only with the help of light. So, money doesn’t have any value of its own. Human beings desire to get money as it satisfies various needs. So, it is proved that money is only a means not an end. According to Prof. Pigou, “Money is a garment draped around the body of economic life.” That means money is only a cover (garment), but the main work is done by commodities or services. In other words, money is just a veil, hiding economic strengths.
Nature Importance Financial Money
IMPORTANCE OF MONEY
Money plays very important role in the economic life. In today’s world everything whether production, consumption, distribution, saving, investment, employment is influenced by money. According to Prof. Marshall, “Money is a centre around which economic science clusters.” In fact, he is an owner or a labourer; a teacher or a student; or it is science or literature; employment or saving money is important for everybody and everywhere. Considering the importance of money, Crowther has said, “Money is a basic invention among all the inventions by human beings.”
IMPORTANCE OF MONEY IN MODERN ECONOMY
Nature Importance Financial Money
Money has the following importance in the modern economy :
(1 Basis of Production : All those sources (or resources) which are used in production are purchased using money. For example, raw materials, machines. labour etc. are obtained after spending money. Again produced goods are sold for money Without money neither raw materials, machines, labour etc. can be purchased nor can they be sold so Money is the basis of Production
(2) Basis of Credit : It is the era of Credit Is also The basis of Banking System. Deferred Payments are also made Using Money . If there is no Money , the credit System will end
(3) Capital Formation Money helps in capital formation. Everybody earns for livelihood. He also saves some part of his earning for future. When this saving is deposited in any financial institution, it is called investment. This investment is on the basis of capital formation and this capital formation leads to trade and industry development in the economy.
(4) International Co-operation International co-operation in the field of finance, commerce, credit etc. brings economic development. The use of money also bring closeness among different countries of the world. This strengthens political and cultural relationship. Thus, money plays an important role in promoting international co-operation.
(5) Unit of Account : Money is a medium to measure the value of any commodity. Thus, it does the function of a unit of book and account. The barter system which existed before the invention of money had no unit of account.
(6) Mobility of Capital: As a liquid asset, money has the quality of mobility. It can be easily carried from one place to another. A person settling in a place different from his present settlement cannot carry his building or any other immovable assets, but he can sell these assets to acquire money and use that money to purchase the desired assets at the new place.
(7) Mirror of National Progress : Money market is well developed today. It not only helps in monetary exchange, but also gives so many different indications. A country that has stability in the value of money or least fluctuation is considered to be a developing country. On the contrary, a country is considered to be economically weak if its money has a normal tendency to fall in its value. Thus, money works as the mirror of national progress.
(8) Knowledge about Per Capita Income: The level of standard of living of citizens of a country is measured on the basis of their per capita income. Now, the per capita income can be measured only in money. It also helps in measuring the prosperity of the country.
(9) Foundation of Capitalism : It is the era of capitalism. Money is a vital need in such an economy. Financial institutions have taken birth only after the invention of money. It has also led to the availability of capital. So, money is the basis of capitalism.
(10) Freedom from Evils of Barter System : Barter System gave rise to many difficulties. For example lack of double coincidence of wants, difficulties in division of goods, difficulties in measuring the value, difficulties in deferred payment, difficulties in storage etc. But money made all exchange easy.
Nature Importance Financial Money
ROLE OF MONEY IN ECONOMIC LIFE
Money plays a very important role in human life. According to Prof. Marshall, “Money is the pivot around which the whole economic science clusters.” Similarly P. B. Trescott has said, “If money is not the heart of our economic system, it can certainly be considered as its blood stream.”
Money has the following importance in various aspects of Economics :
(1) In the field of Consumption : Consumption has the highest place among all economic activities. If there is no consumption the activities of production, demand, supply etc. would come to an end. People use goods and services to fulfill their various needs. Consumers seek maximum satisfaction from their consumption. For this they want to spend their income in various commodities so that they can able to get marginal utility. The concept of Law of Equi-Marginal utility given by Gossen is based on this hypothesis.
Money is the basis of the whole activity of consumption. Income is the basis of consumption and it is indicated in money only. Again the quantity of consumption of a certain goods is determined in money only. Thus money is important with respect to consumption.
(2) In the field of Production : Land, capital, labour and organisation are sources of production. These sources can be achieved only with the help of money. The cost of production and selling price are determined in money only. Money encourages savings and savings create capital formation. The faster process of capital formation in the country is the cause for the higher rate of production because capital plays an important role in setting up of industries. Money is a liquid asset, so it can be made active and hence more productive. The modern division of labour and specialisation are based on money itself. All the factors of production are paid in money only.
(3) In the field of Exchange: The production of a commodity is relevant only when it can be sold. The selling price of a commodity depends on its cost of production. In determining the cost of production, some direct expenditure as well as indirect like depreciation, insurance etc. are included. These expenditures are measured in money only and on the basis of these expenditures the selling price of the commodity is determined. Thus, money plays an important role in the field of exchange. It also promotes international trade. Money is also the basis of credit.
(4) In the field of Distribution : Once the production is completed, rent to the landowner, interest to the capital provider, wages for labourer, profit to the entrepreneur etc. have to be distributed i.e. paid in money. The returns for all these are not possible without money. Thus money has a special place in the just distribution of the required national income.
Nature Importance Financial Money
(5) In the field of Public Finance : The government plays an important role in the nation’s progress. The government meets the expenditures in the interest of public with public income. The area of public expenditure is very large in any country. Its prediction and expenditure both can be fulfilled by money only. The collections of various kinds of taxes levied by the government are not possible without money. Thus, money has an important place in the field of finance as well.
IMPORTANCE OF MONEY IN PLANNED ECONOMY
Nature Importance Financial Money
‘Planned Economy’ means predicting the needs of the country for a certain period by the agencies of the country. It is specially taken care in a planned economy that the stability of the value of money is maintained. The reason is simple—if the value of the money drops the investment in planning goes up. In this condition, extra money will be needed to complete the planning. With this, it is also tried that the foreign exchange rate should be stable.
The planned economy can be of two types—’Socialist Economy’ and ‘Mixed Economy. “Socialist Economy’ is the form of economy in which the wages, amount of production, varieties of production, distribution system, prices etc. are controlled by the state. The prime objective of economic activities is not earning profits. So, money doesn’t have an important place in a mixed economy. Robert Oven has said, “The motive of profit is the prime cause of classdistribution, class-struggle and exploitation in the society and this motive of profit rises due to money. So money should be eliminated” Simply, Karl Marx has analysed the Theory of Surplus value and payment system to be full of drawbacks. According to him,
Money is the main cause of exploitation.” In his opinion, if money is eliminated, the barter system would automatically come into action. Marx’s opinions about money were decided to be given the practical form after the Bolsheviks came into power in Russia in 1917. He felt that if there is a detailed direct control and distribution of commodities by the government, the use of money could be brought to one end. But real situations and practical difficulties clarified it within a very short time that these concepts were illusions. Lenin accepted that it was a mistake of Bolsheviks to reject money. Trolsky, too, had accepted the need of money saying that it is essential to speculate the economic planning in commercial terms and for this there is a need of powerful unit of money.
These days, Russia and China come in the category of socialist countries. In these countries the prices are determined by the government, but the prices of goods and rate of exchanges are measured in money only. This proves that the income of money can’t be denied even in a socialist economy. The main causes behind this situation are:
(1) Difficulty in Making Payment: In the absence of money, it would be very difficult to pay wages, rents, salaries, dividend etc. If the payments have to be made in goods there would be the need of setting a big network of supply of different commodities under the government control. The number of labourers in a country is very large. So, making payments in goods is impossible.
Nature Importance Financial Money
(2) Difficulty in Money Measurement : If there would be the barter system in place of money, it would be a big question as to which substance would be the basis of value measurement. If different substances are taken as basis of measurement in different parts of the country, it would cause an economic inequality. Now the important and decisive fact is that if anything has to be used as the basis of value measurement, the best option is money.
(3) Capital Formation : Even in a capitalist economy, there is a need of huge capital for the foundation of industries and capital formation is impossible without money.
(4) Difficulty in Foreign Trade : There was a time when international trade was carried by the socialist countries on the basis of bilateral agreements. But it puts a limitation to foreign trade. Now since trade has been globalised, even the socialist countries consider money to be the best option for making payments. Russia, one of the biggest among the socialist countries, is also making payments in money.
As far as the importance of money in the mixed economy is concerned, the first thing to know is that in a mixed economy some production activities are carried by the government and some are in the private hands. Money has the same place in a mixed economy. Most of the countries follow mixed economy in the present era. The condition is applied to the developed as well as developing or semi-developed countries. The USA and England have mixed economy. India has also adopted the mixed economy to promote the rate of development. Here, the public sector is controlled by the government but the private sector is also encouraged. Money plays an important role in all these activities.
CIRCULAR FLOW OF MONEY
There is a circular flow of money in economy. Money that a consumer uses to purchase goods and services reaches to the producer via mediators. Again, from the producer money goes to the consumers by the medium of wages, salaries, rents, profits etc. This cycle moves on..
Nature Importance Financial Money
If a part of wages, salaries, profits etc. goes to the government in the form of taxes, they are spent on the planning of economic welfare. This way money comes back to the consumers.
The above diagram shows clearly that service of production flows from households to industries and business houses where as monetary incomes flow in the opposite direction. Similarly monetary expenses flow from households to workshops and from workshops, goods and services flow towards the households. On the other hand, services of production are purchased with money and goods as well as services are sold from workshops. As there is circular flow of money in the economy, an economic balance is maintained but a disturbance in the flow of money system leads to economic imbalance. Out of the investment made in factories and industries if wages, salaries, income, rent etc. which go to the consumers are supposed to be Y and a part of it which the consumer spends is considered to be C (consumption) and the remaining that he saves is considered to be S (savings), we get an equation Y = C + S. Again, if this saving is turned into investment, the equation would be Y=C+I. This sequence in the economy is called the circular flow.
Nature Importance Financial Money
EVILS OF MONEY
Considering the above mentioned importance of money, it can be said that money is the basis of modern economy and it is a boon for human life. But sometimes it becomes a curse for the society as it gives rise to evil practices. Money is also the cause of many evil practices. So keeping in view the evils of money, it has been said, “Money is a good servant but a bad master.” Evils of money can be classified as follows:
Evils of Money
A.Economic Evils B. Social Evils C. Moral Evils
1 Inflation and Deflation 1. Social Respect
2. Tendency of Exploitation of Income and Wealth
3. Class Struggle 2. Unequal Distribution
4. Trade Cycles 3. Enmity –
5. Over-capitalization
6 Encouragement to Loan Tendency
A. Economic Evils Economically, money has the following evils.
(1) Inflation and Deflation A big problem with money is that its value fluctuates. In this condition, the prices of commodities increase when the value of money reduces. Value of money is inversely proportional to price of commodity i.e. when the value of money increases then the price of the commodity decreases and vice versa. This leads to inflation and deflations. Both of these conditions are not good for the economy.
(2) Unequal Distribution of Income and Wealth: Inflation and deflation brings profit for a section of the society and loss for other at the same time. Consequently, there is an unequal distribution of income and wealth.
(3) Class Struggle Everybody aspires to get money. The rich exploits the poor to get more and more money. As a result, the rich get richer and the poor get poorer. This leads to class struggle in the society. Money is the root of struggle between capital and labour.
(4) Trade Cycles : Economy addresses ‘booms’ and ‘depressions’ due to inflation and deflation of money. This affects income, employment, prices, savings and investments. Sometimes, this effect is positive and sometimes negative. When the trade cycle is negative, there are many fluctuations in the economy.
(5) Over-capitalization : With a rise in the flow of money in the economy, there is an increase in savings and investments. A big part of investment is in the industrial fields. If there is over-investments the return on investment decreases is also a problem of over-production. Over-production, too, leads to depression.
(6) Encouragement to Loan Tendency: Individuals, society and nations try to show themselves prosperous. Money encourages loan tendency. People try to show themselves rich or prosperous even by taking loans. It is implied to every country
B. Social Evils : Money has following social evils :
(1) Social Respect! It is commonly seen that somebody is considered respectable if he has a lot of money. Due to abundance of money, many of their drawbacks remain hidden. Due to this reason, intellect, labour, honesty etc. don’t get proper place in the society. This reduces social values.
(2) Tendency of Exploitation It is commonly seen that a prostitute is condemned for her work, but there are many other contemptible work in the form of various kinds of exploitation in the society. People don’t hesitate to exploit their subordinate in order to get more and more money. Very often voices are raised against exploitation by many organisations.
(3) Enmity : In most cases, the root cause of enmity is money. There is a common visibility by enmity among brothers or relatives due to money. So, money reduces social peace and affection.
C. Moral Evils Money is also the mother of moral evils. It encourages theft, robbery, loot, murder, corruption, prostitution etc.
Conclusion : On the bases of the above evils of money, it appears in the first glance that money is the root of all evilness, But it is not so in reality. If people control the use of money, it is a boon. That is why it is said, “Money is a good servant, but a bad master.”
EXERCISE QUESTIONS
Long Answer Type Questions
1. Describe the importance of money.
2. Explain the role of money in modern economic life.
3. Explain the importance of money in planned economy.
4. “Money is a centre around which economic science clusters.” Explain this statement.
5. “Money is a good servant but a bad master.” Explain this statement.
Nature Importance Financial Money
Short Answer Type Questions
1. Describe the nature of money
2. Explain the role of money in the field of consumptions.
3. What do you mean by circular flow of money?
4. Describe the economic evils of money.
5. What are the social and moral evils of money?
III. Objective Type Questions
Choose the correct option
1 Money is
(a) A means
(b) An end
(c) Both of these
(d) None of these
2. Who said, “Money is the garment draped round the body of economic life”?
(a) Prof. Marshall
(b) Crowther
(c) Prof. Pigou
(d) Keynes
3. Money is the pivot around which the whole economic science clusters”. It is the quote of:
(a) Prof. Marshall
(b) Lenin
(c) Prof. Pigou
(d) Keynes
4. Which of these can be an economic evil of money?
(a) Class struggle
(b) Trade cycle
(C) Encouragement to loan tendency
(d) All of these
5. Who said, “If money is not the heart of our economic system, it can certainly be considered its blood stream.”
(a) Trescott
(b) Lenin
(c) Keynes
(d) Crowther.
(Ans. : 1. (a), 2. (c), 3. (a), 4. (d), 5. (a).]
State whether the following statements are True or False :
1 Money creats capital formation.
2. There is no evil of money.
3. Money is good servant but bad master.
4. Money does the function of an unit of book and account. 5-Economy addresses only “boom’ due to inflation and deflation of money. 6. There is a circular flow of money in the economy.
Ans. : 1. True, 2. False, 3. True, 4. True, 5. False, 6. True.]
Nature Importance Financial Money
