3.

0 MONEY AND BANKING

3.1 Money
3.1.1 Definition of Money
• as the modern medium of exchange and the standard unit in which prices and debts are expressed
• as any thing legally acceptable in the discharge of obligations within a political boundary,
• as anything which passes freely from hand to hand and is acceptable in the settlement of a debt.

3.1.2 Evolution of Money

The evolution of money has passed through the following five stages depending upon the progress of human
civilisation at different times and places.

1. Commodity Money: Various types of commodities have been used as money from the beginning of
human civilisation. Stones, spears, skins, bows and arrows, and axes were used as money in the hunting
society. The pastoral society used cattle as money while agricultural society used grains. Precious stones,
tobacco, tea, shells, fishhooks, and many other commodities served as money depending upon time,
place and economic standard of the society

2. Metallic Money: With the spread of civilisation and trade relations by land and sea, many nations started
using silver, gold, copper, tin, etc. as money. Metal was an inconvenient thing to accept, weigh, divide
and assess in quality,as such, metal was made into coins of predetermined weight.

3. Paper Money: This started with goldsmiths who kept strong safes to store their gold. As Goldsmiths
were thought to be honest merchants, people started keeping their gold with them for the safe custody.
In return, the goldsmiths gave the depositor a receipt promising to return the gold on demand. These
receipts of the goldsmiths were given to the sellers of commodities by the buyers. Thus receipts of the
goldsmiths were a substitute for money. Such paper monies were backed by gold and were convertible
on demand into gold. This ultimately led to the development of bank notes.

4. Credit Money: Another stage in the evolution of money in the modern world is the use of the cheque
as money. The cheque is like a bank note in that it performs the same function. It is a means of
transferring money or obligations from one person to another. But a cheque is different from a bank note.
A cheque is made for a specific sum, and it expires with a single transaction.

5. Near Money: The final stage in the evolution of money has been the use of bills of exchange, treasury
bills, bonds, debentures, savings certificates, etc. They are known as "near money". They are close
substitutes for money and are liquid assets. Thus, in the final stage of its evolution money has become
intangible. Its ownership is now transferable simply by book entry.

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3.1.3 General Characteristics of Money

The money in current use world wide has to have certain qualities or properties to be able to perform the
functions mentioned below. Economists have pointed towards the following characteristics or
qualities for a thing to be money.

i. General Acceptability: Everybody must be prepared to accept the money in use. This is the most
important quality of money. People accept a thing as money which is used by everybody as a medium
of exchange.

ii. Durability: Money in circulation must be durable, that is, it should last for a reasonable time without
deterioration.

iii. Portability: Money should be easy to carry in both large and small amounts and should be easily carried
and transferred from one place to another. It should contain large value in small bulk.

iv. Cognizability: Everybody must easily recognize it by sight or touch as it the money in use. Coins and
currency notes of different denominations in different designs and sizes meet this quality of good money.

v. Divisibility. Money should be easily divisible into a range of denominations in order to ensure that
goods of different prices can be purchased with the exact money or that change can easily be given
where money of a higher denomination is offered.

vi. Scarcity: Money must be relatively scarce if it is to be acceptable

vii. Homogeneity: This means that every money note or coin has the same buying power and is identical in
all respects (quality, design and size) to every other notes or coin of the same denomination.

viii. Stability: Money should be stable in value because it has to serve as a measure of value. Its value is
kept stable by keeping control over its issue.

3.1.4 Types of Money

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The money supply of a country is usually held to consist of currency plus demand deposits.

a) Currency
i. Coins: These are essentially 'convenience money' in that they permit transactions involving very
small purchases. However, the coin intrinsic value should be less than the face value of the coin
so as to avoid the melting of the coin for profitable sale as bullion.
ii. Paper Money (Banknotes): This is a piece of paper issued by the Central Bank of a country constituting
a promissory note to pay a stated sum to the bearer on demand. In Nigeria, the notes in circulation
today are ₦5, ₦10, ₦20, ₦50, ₦100, ₦200, ₦500 and ₦1000.
iii. Digital Currency: This has similar properties to physical currencies, but is available in digital
form only and allows for instantaneous transactions and borderless transfer-of-ownership.
b) Demand Deposits (Bank money): These are funds held in a deposit account held at a bank or other
financial institution which is available to the account owner "on demand". Access may be in a variety of
ways, such as cash withdrawals, use of debit cards, cheques and electronic transfer.

3.1.5 Functions of Money

3.1.5.1 Primary Functions

The two primary functions of money are to act as a medium of exchange and as a unit of value.

a) Money as a Medium of Exchange: This is the primary function of money because it is out of this
function that its other functions developed. By serving as a medium of exchange,

• Money removes the need for double coincidence of wants and the inconveniences and difficulties
associated with barter
• Money also separates the transactions in time and place because the sellers and buyers of a
commodity are not required to perform the transactions at the same time and place.
• Money affords the freedom of choice and economic independence
• Money facilitates trade as it allows for one good or service to be traded indirectly for another

b) Money as Unit of Value: The second primary function of money is to expresses the value of each good
or service in terms of price. Also, money as a unit of value facilitates accounting and the calculations of
important economic variables. For example, cost, profit, assets, liabilities, income, and expenses can be
stated in terms of common monetary units.

3.1.5.2 Secondary Functions

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The three secondary functions of money are

a) Money as a Standard of Deferred Payments: It acts as a standard of deferred (postponed) payments.

Money has simplified both the taking and repayment of loans because the unit of account is durable.
This function helps in capital formation by both the public and private enterprises and facilitates the
development of financial and capital markets thus; helps in the growth of the economy.

b) Money as a Store of Value: To hold money is to keep it as a reserve of liquid assets which can be
converted into real goods, to meet unforeseen emergencies and to pay debts. Although real goods may
serve as a store of value (eg buildings, grains, etc.) however, money have advantages of security,
convenience and adaptability over real goods. But, the value of money may also depreciate over time
thus, introducing risks in using money as a store of value.

c) Money as a Transfer of Value between persons and places. Since money is a generally acceptable
means of payment and acts as a store of value, it keeps on transferring values from person to person and
place to place. A person who holds money in cash or assets can transfer that to any other person

3.2 Banking

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3.2.1 Central Bank
A central bank, reserve bank, or monetary authority is an institution that manages the currency, money supply,
and interest rates of a state or formal monetary union,[1] and oversees their commercial banking system.
3.2.1.1 Functions of the Central Bank
A central bank performs the following functions, as given by De Kock and accepted by the majority of
economists.
a) Regulator of Currency: The central bank is the bank of issue. It has the monopoly of note issue. Notes
issued by it circulate as legal tender money. The central bank is required by law to keep a certain amount
of gold and foreign securities against the issue of notes.

b) Banker, Fiscal Agent and Adviser to the Government: Act as bankers, fiscal agents and advisers to
governments. As banker to the government, the central bank keeps the deposits of governments and
makes payments on behalf of governments.

c) Custodian of Cash Reserves of Commercial Banks: Commercial banks are required by law to keep
reserves equal to a certain percentage of customers’ deposits with the central banks. It is on the basis of
these reserves that the central bank transfers funds from one bank to another to facilitate the clearing of
cheques and thus helps in facilitating their transactions.

d) Custodian and Management of Foreign Exchange Reserves: The central bank keeps and manages
the foreign exchange reserves of the country. It is an official reservoir of gold and foreign currencies
Further, it fixes the exchange rates of the domestic currency in terms of foreign currencies.

e) Lender of the Last Resort: The central bank lends to commercial banks, bill brokers, dealers and other
financial institutions, in order to help them in times of stress so as to save the financial structure of the
country from collapse.

f) Clearing House for Transfer and Settlement: Since the central bank holds reserves of commercial
banks, it transfers funds from one bank to other banks to facilitate clearing of Cheques.

g) Controller of Credit: It controls the credit creation power of commercial bank in order to control
inflationary and deflationary pressures within this economy. For this purpose, it adopts two methods:

i. Quantitative methods aim at controlling the cost and quantity of credit by adopting bank rate
policy, open market operations, and by variations in reserve ratios of commercial banks.

ii. Qualitative methods control the use and direction of credit. These involve selective credit controls
and direct action.

h) Miscellaneous: The central banks in a number of developing countries possess some additional powers
of supervision and control over the commercial banks, such as: Issuing of licenses, the regulation of
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 branch expansion; inspecting or auditing the accounts of banks; approve the appointment of chairmen
and directors of such banks to control and recommend merger of weak banks to publish periodical reports
relating to different aspects of monetary and economic policies. to engage in research and training of
banking personnel

3.2.2 Commercial Banks

Commercial banks are those banks which perform all kinds of banking functions such as accepting deposits,
advancing loans, and offering basic investment products that is operated as a business for profit

3.2.2.1 Functions of Commercial Banks

Commercial banks perform a variety of functions which can be divided

i. Accepting Deposits: This is the oldest function of a bank. Nowadays a bank accepts three kinds
of deposits from its customers; namely; Saving, Current and fixed deposits.

ii. Advancing Loans: A bank lends a certain percentage of the cash lying in deposits on a higher
interest rate than it pays on such deposits. This is how it earns profits and carries on its business

iii. Financing Foreign Trade: A commercial bank finances foreign trade of its customers by
accepting foreign bills of exchange and collecting them from foreign banks. It also transacts other
foreign exchange business and buys and sells foreign currency.

iv. Miscellaneous Services:: collection and payments of bills and other similar charges on behalf
of its clients. Acts as a trustee and executor of the property and will of its customers. Income tax
consultant to its clients; custodian of the valuables of its customers, issues various forms of
instruments such as cheques, drafts, travellers' cheques, ATM cards etc. Some commercial banks
also publish journals which provide statistical information about the money market and business
trends of the economy.

3.2.3 Differences between Central Bank and Commercial Banks

S/N Central Bank Commercial Banks

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 Is the apex institution of the monetary and banking
1 Is one of the organs of the money market
structure of the country.
Is a no-profit institution which implements the economic
2 Is a profit-making institution
policies of the government.
3 Is owned by the government Is owned by shareholders
Is a banker to the government and does not engage itself
4 Is a banker to the general public
in ordinary banking activities
Can issue only cheques which arenear-
5 Has the monopoly of notes issue.
money.
6 Is the banker's bank Banking to the public
Controls credit in accordance with the needs of business Creates credit to meet the requirements of
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and economy business.
There are many commercial banks with
Every country has only one central bank with its offices
8 hundreds of branches within and outside the
at important centres of the country.
country.
Is the custodian of the foreign currency reserves
9 Is the dealer of foreign currencies.
of the country
The chief executive of the central bank is designated as The chief executive of the commercial bank
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"Governor", is called 'Chairman' or M D