What are fiat currencies?
What is the origin of fiat money? And what are the differences between fiat and digital currencies? All you need to know about fiat currencies is explained here.
What are fiat currencies?
Fiat currencies are government-issued currencies that are not backed by precious metals such as gold or silver. Instead, their value comes from the ongoing existence of the government that has issued them, as well as the performance of its economy.
Fiat money has evolved over hundreds of years but was initially invented to replace the barter system, where people had to directly exchange products of different value. Fiat money allowed people to plan and trade consistently, as well as to create a relatively stable store of purchasing power.
For around 50 years, fiat currencies have been the dominant form of money. Under the fiat monetary system, central banks became extremely powerful. Because fiat currencies are issued by governments, only central banks can issue new notes. In fact, central banks control all aspects of money flow, as well as managing the economy. While this gives states much more autonomy, it also comes with greater risks, including inflation.
A short history of fiat currency
China was probably the first place to issue fiat currency. By the 11th Century, the Chinese established a government-controlled fiat currency whose value was vaguely tied to gold, silver or silk.
The system worked at first but the government kept printing more notes without retiring the existing ones, causing inflation. Over time, the value of the notes plummeted and they fell out of use.
About six hundred years later, the Bank of Stockholm, the world’s first central bank began to issue fiat currency. This project also ended in failure as the currency depreciated so quickly that in 1776 the government stepped in and backed the currency with silver.
Fiat currencies evolved in the 19th century into paper currencies backed by gold. This continued until 1971 when United States President Richard Nixon detached the dollar from the gold standard. Since then, most countries have also issued their own fiat currencies and use them to this day.
Fiat currency pros:
- Gives states centralized control over their own currency and economy
- Provides a relatively stable store of value
- Interchangeable for other forms of fiat currency
Fiat currency cons:
- Dependent on responsible monetary policy by governments
- Can be used to restrict liberty in autocratic regimes
- Prone to hyperinflation
- Unlimited supply
Fiat currencies are now used by every government in the world, but this doesn’t mean that they are the final evolution of money. New technology means that we no longer need states or central banks to issue currency. The invention of cryptocurrency changes everything. From being your own bank to a whole new way of doing finance, cryptocurrency gives you new opportunities to grow your money. Click here to learn more about Bitcoin.