Personal Finance Learning Guide
<aside> 🗒️ In this section: Wait, isn't it obvious what money is and what it's used for? It turns out the answer isn't quite that simple (and more fascinating than you might imagine 🤑). Let's explore the history of money so you can understand how it works and what it can and cannot be used for.
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<aside> <img src="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/73e755d0-bdac-4059-80bb-61ba89219f2b/yawn.png" alt="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/73e755d0-bdac-4059-80bb-61ba89219f2b/yawn.png" width="40px" /> TLDR: I.O.Us were used as an early way to buy stuff by promising a favor in return
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Before money was invented, how did people get things? One of the earliest ways was in the form of I.O.Us (which literally means "I Owe You" and is an initial form of a liability). For example, imagine Person A wanted some potatoes from someone else in her town (Person B), who grew potatoes. In order to compensate Person B, Person A would provide an I.O.U to Person B saying that next time Person B needs something, Person A would do it.
The world's most valuable I.O.U? 🍩 😉
This worked well initially, but as civilizations got larger, limitations began to emerge:
A good modern example of how I.O.Us work and their limitations is something that we've all probably had experience dealing with: store credit.
Why Store Credit acts as an I.O.U.
Why Store Credit acts as an I.O.U.
Another pre-money type of transaction which occurred is known as bartering (an early form of trading). In this model, in exchange for the potato, Person A gives something that they possess that Person B wants (e.g. a tomato) at the time of transaction. This approach eliminates the "Trust" and "Accounting" problems from I.O.U. above since Person A does not owe anything to Person B — but is still limited by the "Compensation" problem as what can be exchanged needs to both be something Person A possesses and Person B desires (known as the Coincidence of Wants).
Why Doesn't Bartering Scale?
<aside> <img src="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/73e755d0-bdac-4059-80bb-61ba89219f2b/yawn.png" alt="https://s3-us-west-2.amazonaws.com/secure.notion-static.com/73e755d0-bdac-4059-80bb-61ba89219f2b/yawn.png" width="40px" /> TLDR: To improve, money was invented to act as a better form of a I.O.U. that was backed by someone everyone trusted: the governments .
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Money solved the key limitations of the above systems:
Trust - One important limitation of IOUs issued from people or businesses is that the recipient doesn't have a high level of confidence that they will be paid off. Money fixes that by acting as an I.O.U with one important distinction: it's issued from your national government instead of any single person or business. Because everyone has trust that their government is "good for it", citizens are willing to take this I.O.U in exchange for goods and services.
If you're in possession of this, the US government owes you $5!
Think about how crazy this might seem to an alien who lands on earth: you can buy a delicious burrito from Chipotle by giving the cashier a piece of paper! Still don't believe money is really an I.O.U - did you ever think why other countries don't accept your country's currency? It's because you're trying to use 'store credit' in a different store. Mind blown?!? 🤯
Compensation - Lack of confidence in IOUs issued from people or businesses limited transferability of those IOUs to someone else as payment (e.g. Person C may not be willing to accept Person A's IOU from Person B). However, this issue is eliminated with money since everyone trusts and is willing to accept it. You no longer care if the person you are transacting with can pay you back later or give you something in exchange because the money they give you provides you something far more valuable: flexibility to get what you want when you want.