Concepts Of Money Notes with 50 MCQs for Class 12 Economics

Money and Banking

Money is one of the greatest inventions in the history of civilization. Every modern economic activity—buying goods, paying salaries, collecting taxes, borrowing loans and investing savings—depends upon money. Before money came into existence, people exchanged goods directly through the barter system, which created several practical difficulties. The evolution of money solved these problems and laid the foundation for the modern banking system.

Table of Contents

• Meaning of Money
• Evolution of Money
• Barter System
• Drawbacks of Barter System
• Functions of Money
• Forms of Money
• Money Supply

Meaning of Money

Every day we use money to purchase goods, pay bills, receive salaries and save for the future. However, in Economics, money has a broader meaning than simply currency notes or coins.

Money is anything that is generally accepted as a medium of exchange and is used for buying goods, paying for services and settling debts.

Simple Definition Money is anything that people willingly accept in exchange for goods and services.

Examples of Money

• Currency notes
• Coins
• Bank deposits
• Cheques
• Digital bank balances
• UPI-linked bank deposits

Importance of Money

Area	Role of Money
Trade	Facilitates buying and selling.
Business	Helps in investment and production.
Government	Collection of taxes and public expenditure.
Households	Income, consumption and savings.
Banking	Deposits, loans and digital payments.

Evolution of Money

Money did not appear suddenly. It evolved gradually as societies expanded and trade became more complex.

The evolution of money refers to the gradual transformation from barter exchange to modern digital payment systems.

Stages in the Evolution of Money

Stage	Main Feature
Barter System	Goods exchanged for goods.
Commodity Money	Salt, cattle, grains and shells used as money.
Metallic Money	Gold, silver and copper coins.
Paper Money	Currency notes issued by the Central Bank.
Digital Money	Electronic payments through banks.

Barter System

The Barter System is a system of exchange in which goods and services are exchanged directly for other goods and services without the use of money.

A farmer exchanges 50 kg of wheat with a carpenter for a wooden table. No money is involved.

Features of the Barter System

• No use of money.
• Direct exchange of goods and services.
• Value determined by mutual agreement.
• Suitable for small and simple economies.
• Difficult to operate in modern economies.

Drawbacks of the Barter System

Although the barter system was useful in primitive societies, it became inefficient as trade expanded.

Drawback	Explanation
Double Coincidence of Wants	Both parties must want each other's goods at the same time.
No Common Measure of Value	Difficult to determine exchange ratios.
Lack of Store of Value	Perishable goods cannot preserve wealth.
Lack of Standard of Deferred Payment	Future payments cannot be measured easily.
Lack of Transferability	Large goods cannot be transported conveniently.

Real-Life Illustration

Suppose a teacher wants to buy vegetables using tuition services. The vegetable seller may not need tuition classes. Since both parties do not have matching wants, exchange becomes impossible. This is known as the problem of Double Coincidence of Wants.

Quick Revision

• Money evolved because barter had serious limitations.
• Barter involves direct exchange of goods.
• The biggest drawback is Double Coincidence of Wants.
• Money acts as a universally accepted medium of exchange.
• Modern economies depend on money for efficient transactions.

Functions of Money

Money performs several important functions that make it indispensable in a modern economy. These functions facilitate production, exchange, saving, investment and economic development.

Functions of Money refer to the various roles played by money in an economy to facilitate exchange, measure value, store wealth and settle future obligations.

CBSE Classification of Functions of Money

• Primary Functions
• Secondary Functions
• Contingent (Derived) Functions

---

Classification of Functions of Money

---

Primary Functions of Money

Primary functions are the basic functions without which money cannot exist.

1. Medium of Exchange

Money acts as an intermediary in the exchange of goods and services.

Without Money Farmer → Wheat ↔ Carpenter → Furniture With Money Farmer → Wheat → ₹ → Furniture Exchange becomes simple and efficient.

Barter System	Money Economy
Goods exchanged directly.	Goods exchanged through money.
Requires double coincidence of wants.	No such requirement.
Trade is limited.	Trade expands rapidly.

---

2. Measure of Value (Unit of Account)

Money provides a common unit for measuring the value of all goods and services.

Without money 1 Car = ? 500 Chairs = ? 20 Computers = ? Comparison becomes difficult. With money Car = ₹10,00,000 Chair = ₹2,000 Computer = ₹50,000 Prices become easy to compare.

Price = Value expressed in terms of Money

---

Secondary Functions of Money

Secondary functions improve the efficiency of economic activities.

---

1. Store of Value

Money enables people to save purchasing power for future use.

A person earning ₹80,000 today may save ₹20,000 in a bank account for future education, healthcare or retirement.

Unlike fruits or vegetables, money does not perish and therefore acts as a good store of value.

---

2. Standard of Deferred Payments

Money serves as the standard for settling future payments such as loans and credit transactions.

A bank sanctions a home loan of ₹30 lakh. The borrower agrees to repay the loan over the next 20 years in money.

---

3. Transfer of Value

Money enables purchasing power to be transferred easily from one place to another.

Using online banking or UPI, a person in Delhi can instantly transfer ₹10,000 to someone in Chennai.

---

Contingent (Derived) Functions of Money

These functions support economic development and are possible because money already performs its primary and secondary functions.

Function	Explanation
Basis of Credit	Money enables banks to create credit.
Distribution of National Income	Factor payments are made in money.
Measurement of National Income	National Income is measured in monetary terms.
Liquidity	Money is the most liquid asset.
Capital Formation	Savings are converted into investment.

---

Characteristics of Good Money

Characteristic	Importance
General Acceptability	Accepted by everyone.
Durability	Long-lasting.
Portability	Easy to carry.
Divisibility	Can be divided into smaller units.
Uniformity	Same quality and value.
Recognisability	Easy to identify.
Stability of Value	Purchasing power remains reasonably stable.

---

Importance of Money in Modern Economy

Area	Role of Money
Production	Purchase of raw materials and machinery.
Consumption	Purchase of goods and services.
Banking	Deposits and loans.
Government	Tax collection and public expenditure.
International Trade	Imports and exports.
Investment	Capital formation and economic growth.

---

Summary of Functions of Money

Category	Functions
Primary	Medium of Exchange, Measure of Value
Secondary	Store of Value, Standard of Deferred Payments, Transfer of Value
Contingent	Basis of Credit, Liquidity, Capital Formation, Distribution of National Income

Quick Revision

• Money removes the difficulties of the barter system.
• The most important function is Medium of Exchange.
• Money acts as a common measure of value.
• Money stores purchasing power.
• Loans are repaid in money because it is the standard of deferred payments.
• Money is the most liquid asset.
• Modern banking and credit creation depend upon money.

Forms of Money

Money has evolved continuously over thousands of years. As economies became larger and technology advanced, different forms of money emerged to meet the growing needs of trade, banking and financial transactions. Today, money exists in both physical and digital forms.

Forms of Money refer to the different types of money that have been used at different stages of economic development.

---

Evolution of Forms of Money

---

1. Commodity Money

Commodity Money refers to goods having intrinsic value that are used as money.

Examples

• Salt
• Cattle
• Rice
• Wheat
• Tea
• Cowrie Shells

In ancient societies, farmers often exchanged cattle, grains and salt instead of currency.

Advantages

• Universally useful in primitive economies.
• Has intrinsic value.
• Simple to understand.

Limitations

• Difficult to transport.
• Not durable.
• Cannot be divided easily.
• Quality differs from one commodity to another.

---

2. Metallic Money

Metallic Money consists of coins made from metals such as gold, silver, copper and nickel.

Examples

• Gold Coins
• Silver Coins
• Copper Coins
• Nickel Coins

Advantages	Limitations
Durable	Heavy to carry
Portable	Limited supply
Uniform	Minting is expensive
Accepted widely	Risk of melting and hoarding

---

3. Paper Money (Currency Notes)

Paper Money consists of currency notes issued by the Central Bank of a country.

Examples in India

• ₹10 Note
• ₹20 Note
• ₹50 Note
• ₹100 Note
• ₹200 Note
• ₹500 Note

Paper money has very little intrinsic value but derives its value from government authority and public confidence.

---

4. Fiat Money

Fiat Money is money declared as legal tender by the government even though it has no intrinsic value.

Feature	Description
Issued By	Central Bank
Legal Tender	Yes
Intrinsic Value	Almost Nil
Acceptance	Compulsory by law

---

5. Credit Money (Bank Money)

Credit Money refers to money created by commercial banks in the form of bank deposits.

Examples

• Cheques
• Demand Deposits
• Bank Drafts
• Electronic Bank Deposits

When a customer deposits ₹1 lakh in a bank, the bank can create additional credit through lending. Thus, commercial banks create Credit Money.

---

6. Plastic Money

Plastic Money refers to payment instruments made of plastic that can be used instead of cash.

Examples

• Debit Card
• Credit Card
• Prepaid Card
• ATM Card

Advantages	Limitations
Convenient	Requires banking infrastructure
Safe	Cyber fraud risk
Cashless Payment	Card misuse possible

---

7. Digital Money

Digital Money exists only in electronic form and is transferred through banking systems without using physical currency.

Examples

• Internet Banking
• Mobile Banking
• UPI Transactions
• NEFT
• RTGS
• IMPS

A customer purchases groceries by scanning a QR code and paying through UPI. No physical cash changes hands, yet payment is completed instantly.

---

8. Central Bank Digital Currency (CBDC)

Central Bank Digital Currency (CBDC) is a digital form of sovereign currency issued directly by the Reserve Bank of India.

CBDC	Cryptocurrency
Issued by RBI	Not issued by RBI
Legal Tender	Not Legal Tender
Government Backed	No Government Guarantee
Stable Value	Highly Volatile

For CBSE Class 12 Economics, focus on CBDC as the digital currency issued by the Reserve Bank of India and distinguish it from private cryptocurrencies.

---

Comparison of Different Forms of Money

Form	Physical	Intrinsic Value	Modern Usage
Commodity Money	Yes	High	Rare
Metallic Money	Yes	Moderate	Limited
Paper Money	Yes	Very Low	Very High
Credit Money	No	No	Very High
Plastic Money	Yes	No	Very High
Digital Money	No	No	Rapidly Increasing
CBDC	No	No	Emerging

Quick Revision

• Commodity Money was the earliest form of money.
• Metallic Money replaced commodity money due to greater durability.
• Paper Money is issued by the Central Bank.
• Credit Money is created by Commercial Banks.
• Plastic Money includes debit and credit cards.
• Digital Money exists only electronically.
• CBDC is the digital legal tender issued by the Reserve Bank of India.

Money Supply

Money Supply is one of the most important concepts in Macroeconomics. It indicates the total quantity of money available in an economy at a particular point of time. The Reserve Bank of India (RBI) continuously monitors the money supply because it directly influences inflation, interest rates, investment, employment and economic growth.

Money Supply refers to the total stock of money held by the public in an economy at a particular point of time.

Remember Money Supply is a Stock Variable because it is measured at a particular point of time.

---

Meaning of Money Supply

Money Supply represents the money that is available with the public for making payments. It includes currency held by people and deposits that can be withdrawn on demand.

Money Supply = Currency Held by Public + Demand Deposits with Banks

Suppose Currency with Public = ₹18 lakh crore Demand Deposits = ₹22 lakh crore Money Supply = ₹18 + ₹22 = ₹40 lakh crore

---

Characteristics of Money Supply

Characteristic	Description
Stock Concept	Measured at a particular point of time.
Highly Liquid	Can be used immediately for payments.
Includes Currency	Currency notes and coins with the public.
Includes Demand Deposits	Deposits withdrawable by cheque or ATM.
Excludes Currency Held by RBI	Not available with the public.
Excludes Cash with Banks	Held as reserves.

---

Supplier of Money

Money is supplied by three institutions working together.

Institution	Role
Reserve Bank of India (RBI)	Issues currency notes and regulates money supply.	Government of India (Ministry of Finance)
Commercial Banks	Create credit by accepting deposits and granting loans.

---

Role of the Reserve Bank of India (RBI)

The Reserve Bank of India is the Central Bank of India and the sole authority responsible for issuing currency notes (except the ₹1 note issued by the Government of India).

Main Functions Related to Money Supply

• Issue of currency notes.
• Control of money supply.
• Control of credit.
• Banker to the Government.
• Banker's Bank.
• Custodian of foreign exchange reserves.
• Formulation of monetary policy.

When the RBI purchases Government Securities from banks, more money enters the banking system, increasing the money supply.

---

Role of Commercial Banks

Commercial Banks increase the money supply by creating credit through the process of lending.

Functions of Commercial Banks

Function	Description
Accept Deposits	Collect savings from the public.
Grant Loans	Provide credit to households and businesses.
Create Credit	Generate additional bank deposits through lending.
Payment Services	Cheques, NEFT, RTGS, UPI and internet banking.

---

Flow of Money Creation

Deposits → Loans → New Deposits → Increase in Money Supply

---

Measurement of Money Supply

The Reserve Bank of India classifies money supply into four monetary aggregates—M1, M2, M3 and M4.

Aggregate	Name
M1	Narrow Money
M2	Broader than M1
M3	Broad Money
M4	Widest Measure of Money

---

M1 (Narrow Money)

M1 is the most liquid measure of money supply because it includes money that can be used immediately for making payments.

M1 = Currency with Public + Demand Deposits with Commercial Banks + Other Deposits with RBI

Component	Description
Currency with Public	Notes and coins held by people.
Demand Deposits	Current and savings deposits withdrawable on demand.
Other Deposits with RBI	Deposits maintained with RBI by certain institutions.

---

M2

M2 = M1 + Savings Deposits with Post Office Savings Banks

---

M3 (Broad Money)

M3 is the most commonly used measure of money supply in India because it includes both highly liquid money and time deposits with commercial banks.

M3 = M1 + Time Deposits with Commercial Banks

CBSE Examination Point M3 is the most important monetary aggregate in India.

---

M4

M4 = M3 + Total Deposits with Post Office Savings Organisation (Except National Savings Certificates)

---

Comparison of Monetary Aggregates

Aggregate	Liquidity	Coverage
M1	Highest	Smallest
M2	Very High	Higher than M1
M3	High	Most Commonly Used
M4	Lowest	Largest Coverage

---

Hierarchy of Money Supply

---

Quick Comparison

Concept	Key Point
Money Supply	Total stock of money with the public.
Main Suppliers	RBI and Commercial Banks.
Most Liquid Aggregate	M1
Most Widely Used Aggregate	M3
Broadest Aggregate	M4

Quick Revision

• Money Supply is a stock variable.
• RBI issues currency and regulates money supply.
• Commercial Banks create credit.
• M1 is called Narrow Money.
• M3 is called Broad Money and is the most commonly used measure in India.
• M4 is the broadest monetary aggregate.
• Money Supply influences inflation, interest rates and economic growth.

Quick Revision Notes

One-Page Revision

Concept	Key Point
Money	Generally accepted medium of exchange.
Barter System	Direct exchange of goods for goods.
Biggest Drawback	Double Coincidence of Wants.
Commodity Money	Money having intrinsic value.
Metallic Money	Coins made of metals.
Paper Money	Currency notes issued by RBI.
Credit Money	Bank deposits created by commercial banks.
Plastic Money	Debit and Credit Cards.
Digital Money	Electronic bank money.
CBDC	Digital currency issued by RBI.
Money Supply	Total stock of money with the public.
M1	Narrow Money.
M3	Broad Money (Most Important).
Main Suppliers	RBI and Commercial Banks.

---

Formula Sheet

Money Supply = Currency Held by Public + Demand Deposits

M1 = Currency with Public + Demand Deposits + Other Deposits with RBI

M2 = M1 + Savings Deposits with Post Office Savings Banks

M3 = M1 + Time Deposits with Commercial Banks

M4 = M3 + Total Deposits with Post Office Savings Organisation (Except National Savings Certificates)

---

Difference Between Barter System and Money Economy

Basis	Barter System	Money Economy
Medium of Exchange	Goods exchanged directly.	Money used for exchange.
Double Coincidence of Wants	Required.	Not Required.
Measurement of Value	No Common Measure.	Common Unit of Account.
Store of Value	Very Difficult.	Possible.
Deferred Payments	Not Convenient.	Easy.
Economic Development	Limited.	Rapid.

---

Difference Between M1 and M3

Basis	M1	M3
Name	Narrow Money	Broad Money
Liquidity	Highest	Lower than M1
Time Deposits	Not Included	Included
Importance	Highly Liquid	Most Commonly Used by RBI

---

Frequently Asked Questions (FAQs)

1. Why did money evolve?

Money evolved to remove the practical difficulties of the barter system, especially the problem of double coincidence of wants.

2. Why is money called the most liquid asset?

Because money can be immediately used for purchasing goods and services without any conversion.

3. Who issues paper currency in India?

The Reserve Bank of India issues all currency notes except the ₹1 note, which is issued by the Government of India.

4. Who creates credit money?

Commercial Banks create credit money through lending based on deposits.

5. Which monetary aggregate is most important in India?

M3 (Broad Money) is the most widely used measure of money supply by the Reserve Bank of India.

---

CBSE Important Questions

1. Define Money.
2. Explain the evolution of money.
3. State the drawbacks of the barter system.
4. Explain the primary functions of money.
5. Differentiate between primary and secondary functions of money.
6. Explain different forms of money.
7. Define Money Supply.
8. Who are the suppliers of money?
9. Explain the role of RBI in controlling money supply.
10. Differentiate between M1 and M3.

---

Practice MCQs

1. The biggest drawback of the barter system is Double Coincidence of Wants.
2. The primary function of money is Medium of Exchange.
3. Money acts as a Measure of Value.
4. Paper money in India is issued by the Reserve Bank of India.
5. Commodity money possesses Intrinsic Value.
6. Credit money is created by Commercial Banks.
7. Plastic money includes Debit Cards and Credit Cards.
8. CBDC is issued by the Reserve Bank of India.
9. Money Supply is a Stock Variable.
10. M1 is known as Narrow Money.
11. M3 is known as Broad Money.
12. M3 includes Time Deposits.
13. Commercial Banks increase money supply through Credit Creation.
14. RBI controls money supply through Monetary Policy.
15. Digital Money exists in Electronic Form.
16. Money serves as a Store of Value.
17. Money is a Standard of Deferred Payments.
18. Money enables Transfer of Purchasing Power.
19. The broadest monetary aggregate is M4.
20. Currency held by RBI is Not Included in money supply.

---

Common Mistakes Made by Students

• Confusing Money Supply with High Powered Money.
• Including cash held by banks in Money Supply.
• Treating M1 and M3 as the same.
• Confusing Credit Money with Paper Money.
• Considering barter system suitable for modern economies.
• Ignoring the role of commercial banks in credit creation.
• Confusing CBDC with Cryptocurrency.

---

One-Minute Revision

• Money evolved because barter had several drawbacks.
• The most important function of money is serving as a medium of exchange.
• Money acts as a measure of value, store of value and standard of deferred payments.
• Forms of money include commodity, metallic, paper, credit, plastic and digital money.
• Money Supply is the stock of money held by the public.
• RBI issues currency and regulates money supply.
• Commercial banks create credit money.
• M1 is Narrow Money.
• M3 is Broad Money and the most commonly used monetary aggregate.
• CBDC is the digital legal tender issued by the Reserve Bank of India.

---

Conclusion

Money has transformed economic life by replacing the inefficient barter system with a universally accepted medium of exchange. Over time, money has evolved from commodities and metallic coins to paper currency, bank deposits and digital payment systems. Understanding the forms of money and the concept of money supply is essential for analysing inflation, monetary policy, banking operations and overall economic stability. The Reserve Bank of India and commercial banks together ensure that the economy has an adequate supply of money to support growth while maintaining price stability.

Economics with Akash Sir

CBSE Class 12 Economics | Money and Banking | Macroeconomics