Why Does The U.S. Dollar Have Value
Why Does The U.S. Dollar Have Value. The U.S. Dollar is what is called fiat currency which means that it is based on supply and demand and not a commodity that is backing it, such as gold silver or even as in some countries petroleum.
The currency was changed in 1971 by President Nixon. Since then the dollar is backed by the “full faith and credit” of the U.S. government, “legal tender for all debts, public and private”. The pre 1971 bill stated “redeemable in lawful money at the United States Treasury or at any Federal Reserve Bank,”.
Obviously when examined closely you see different expressions , the current U.S. dollars are now “legal tender,” rather than the pre-1971 which were “lawful money,” exchangeable for gold, silver, or any other commodity.
Money which is not linked to physical reserves, such as gold or silver, runs a risks of losing value due to inflation or even becoming worthless in the event of hyperinflation.
If people lose faith in a nation’s currency, the money will no longer hold value.
Reasons Why Fiat Currency Is Used
Fiat money serves as a good currency to facility sales and business being that it is available and exchangeable. It also has turns a profit for the government. If it costs them t10 cents to print a $100 bill they just made $99.90.
Paper money acts as a storage medium for purchasing power and an alternative to the barter system. It allows people to buy products and services as they need without having to trade product for product, as was the case with barter trade.
Due to its ability to store purchasing power, people can make plans with ease and create specialized economic activities. For example, a business dealing with mobile phone assembly can buy new equipment, hire and pay employees, and expand into other regions.
The value of fiat money is dependent on how a country’s economy is performing, how the country is governing itself, and the effects of these factors on interest rates. A country experiencing political instability is likely to have a weakened currency and inflated commodity prices, making it hard for people to buy products as they may need.
A fiat currency functions well when the public has enough confidence in the currency’s ability to act as a storage medium for purchasing power. Also, it must be backed by the full credit of the government that gives a decree and prints it as a legal tender for financial transactions.
Advantages and Disadvantages of Fiat Currency
Commodity-based currencies are volatile due to the regular business cycle and periodic recessions. The central banks can print or hold paper money as they may need, giving them greater control over the money supply, interest rates, and liquidity. For example, the Federal Reserve’s control over money supply and demand enabled it to manage the Global Financial Crisis of 2008 from causing greater harm to the U.S. financial system and global economy. However this comes with the danger of inflation devaluing the currency.
Fiat currencies gained prominence in the 20th century in part because governments and central banks sought to insulate their economies from the worst effects of the natural booms and busts of the business cycle. Since fiat money is not a scarce or fixed resource like gold, central banks have much greater control over its supply, which gives them the power to manage economic variables such as credit supply, liquidity, interest rates, and money velocity. For instance, the U.S. Federal Reserve has the dual mandate to keep unemployment and inflation low.
The mortgage crisis of 2007 and subsequent financial meltdown, however, tempered the belief that central banks could necessarily prevent depressions or serious recessions by regulating the money supply.
A currency tied to gold, for example, is generally more stable than fiat money because of the limited supply of gold. There are more opportunities for the creation of bubbles with fiat money due to its unlimited supply.
Hope you enjoyed and don’t forget to share with two friends,