The classification of money in the Indian economy is determined by its legal backing, the source of its value, and its physical or digital form.
Based on Source of Value
Commodity Money
This is the most primitive form of money where the object used as a medium of exchange has intrinsic value.
- Definition: The value of the money is equal to the value of the material it is made of.
- Examples: Gold coins, silver bullion, or historical commodities like salt and grains.
- Limitation: It is difficult to standardize and transport, and its supply is limited by the availability of the commodity.
Metallic Money
A subset of commodity money, where metals like gold, silver, or copper are minted into coins.
- Full-Bodied Coins: Coins whose face value is equal to their intrinsic metallic value.
- Token Coins: Modern coins (like the Indian ₹1, ₹2, ₹5, ₹10, and ₹20) where the face value is much higher than the metallic value of the alloy used.
Fiat Money
Fiat money is the cornerstone of modern Indian currency.
- Definition: It has no intrinsic value and is not backed by a physical commodity. It derives value from a government decree or order.
- Characteristics: It is issued by the central authority (RBI) and is accepted because the law mandates it.
- Examples: All Indian currency notes (₹10, ₹20, ₹50, ₹100, ₹200, ₹500).
Fiduciary Money
Fiduciary money depends on the trust (fiduciary relationship) between the payer and the payee.
- Definition: It is not mandated by law to be accepted (unlike fiat money) but is accepted based on the confidence that the issuer will honor the value.
- Examples: Cheques, bank drafts, and promissory notes.
Based on Legal Status
Legal Tender
Legal tender is any form of payment allowed by law to be used to settle a financial obligation or debt.
- Limited Legal Tender: Money that can be legally refused if offered for payment beyond a certain limit. Under the Coinage Act, 2011, coins are legal tender for amounts up to ₹1,000.
- Unlimited Legal Tender: Money that must be accepted for any amount of debt settlement. All RBI banknotes are unlimited legal tender.
Non-Legal Tender (Optional Money)
This refers to money that is used in transactions but lacks legal compulsion for acceptance.
- Nature: It is primarily fiduciary money.
- Examples: A shopkeeper can legally refuse a cheque or a demand draft, insisting on cash (legal tender).
Based on Liquidity and Nature of Asset
Near Money
Near money refers to highly liquid non-cash assets that can be easily converted into cash.
- Characteristics: They serve as a store of value but cannot be used directly for transactions.
- Examples: Savings bonds, Treasury bills, National Savings Certificates (NSC), and Fixed Deposits (FDs).
Bank Money (Deposit Money)
This refers to the funds held in demand deposits at commercial banks.
- Mechanism: It is transferred via cheques, debit cards, or electronic transfers (NEFT/RTGS).
- Significance: It forms a major part of the M1 and M3 money supply in India.
Emerging Forms of Money
Digital and Plastic Money
- Plastic Money: Physical cards (Credit and Debit cards) that facilitate the transfer of bank money.
- Electronic Money (e-Money): Monetary value stored electronically, such as in mobile wallets (e.g., Paytm, Mobikwik) or UPI-linked accounts.
Central Bank Digital Currency (CBDC)
- The e-Rupee (e₹): Launched by the RBI, this is a digital version of fiat currency.
- Difference from UPI: While UPI is a front-end for transferring bank deposits, CBDC is a digital token that represents a direct liability of the RBI, just like physical cash.
Comparison Table: Types of Money
| Category | Type | Intrinsic Value | Legal Backing | Example |
|---|---|---|---|---|
| Commodity | Full-Bodied | High | Varies | Gold Coins (Ancient) |
| Fiat | Representative | None | Government Order | RBI Currency Notes |
| Fiduciary | Optional | None | Based on Trust | Cheques |
| Legal Tender | Unlimited | None | RBI Act, 1934 | ₹500 Note |
| Legal Tender | Limited | Minimal | Coinage Act, 2011 | ₹1, ₹2, ₹5 Coins |
| Liquid Assets | Near Money | None | Contractual | Treasury Bills |
Essential Facts for UPSC Prelims
- The One Rupee Note: Unlike other denominations, the one-rupee note is issued by the Ministry of Finance and bears the signature of the Finance Secretary, not the RBI Governor.
- Legal Tender Power: No person can be forced to accept more than 1,000 rupees in coins for a single transaction as per the Coinage Act of 2011.
- Seigniorage: This is the profit the government/central bank makes by issuing currency. It is the difference between the face value of the money and its production cost.
- Demonetization: On November 8, 2016, the Government of India declared that ₹500 and ₹1,000 notes were no longer “legal tender,” effectively stripping them of their status as “Money.”
- Money Multiplier: The process by which the commercial banking system creates “Bank Money” from the “High-Powered Money” (M0) issued by the RBI.