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What Is Money?
When I was a kid, Monopoly was my favorite board game. I loved the thrill of buying new properties, each pass around the board bringing me closer to collecting a matched set. Once I had a full set, I'd upgrade my real estate with little green houses all lined up in a row, only to demolish those houses and replace them with hotels. And I loved collecting the ever-increasing rents whenever someone landed on spaces that I owned.
While playing the game was fun overall, playing with the money was my favorite part. Those slips of colorful paper, each worth more and more. I collected them in neat stacks along my side of the board. I had a thing for the bigger bills, especially the bright orange $500s, which were, of course, the hardest to get. As soon as I had enough money, I'd exchange my smaller bills for bigger denominations at the Monopoly bank. My family found this so exasperating that as soon as I could count well enough, being the banker became my permanent job, which I didn't mind, not one bit. I'd get excited as my orange stack grew and would mourn the loss of each bill whenever I had to break one to pay rent to another player.
Monopoly taught me so many invaluable lessons. That money could help me buy things. That there were things that money could buy that would help me get even more money. That I could strike a deal with someone that would leave both of us happier and wealthier. That I needed to balance spending on new properties with saving reserves in case I needed to pay rent because I landed on someone's property, or if Chance dropped an unexpected bill in my lap. I learned that if you run out of money, it's game over unless you have assets that you can use as collateral for loans. Manage your money wisely and you could get it all back and win.
I also inadvertently learned a few less-than-stellar lessons, like the person with the most money at the end always wins, and that winning often means having to financially decimate someone else along the way. (Thankfully, those two are not financial facts. Building wealth isn't about racing to be the person who gets the most money the fastest. Also, it's entirely possible to grow your wealth ethically so that everyone can thrive. We'll talk more about how to tell the difference between facts and thoughts in part 2.)
At six years old, I knew very little about money and finance, but I knew enough to know that it was just a game. I knew that whole rainbow of bills was useless to me in the real world. I couldn't take that orange $500 bill to the store to buy real candy, not even the sour apple kind that I loved so much that cost only a penny each. Because Monopoly money wasn't real money. For a long time, all I knew about real money was that I needed it to buy things-groceries, movie tickets, cars, clothes.
For something that has such a major impact on our lives, many of us have remarkably little insight into what money is and how it works.
Why You Need to Understand What Money Is
What is money and why is it valuable? Why is it even a thing? Those are the questions we'll be focused on in this section. Even if you think you already know the fundamentals, this section is the scaffolding that all the rest of your understanding about money will be built on. Having a basic understanding of money, the financial system that we live in, and how both have evolved over time will ground your knowledge and make it easier to apply everything that you are going to learn. And it will provide a framework for managing your money effectively in service of your best life even as the financial markets continue to evolve around you.
How Money Became a Thing
Humans didn't always have money-at least not how we think of it today. We lived in small communities and relied on social norms of reciprocity and a common understanding of how resources should be shared and distributed. Anything that we weren't able to make or get for ourselves, we would source from our social circles. Within a community, money often took the form of an informal gift economy in which exchanges happened without immediate payment and often without an explicit promise that repayment would ever come.
An exchange in a gift economy looks something like this. Let's say you need a new pair of shoes, but you don't have anything on hand to make yourself a pair. Your neighbor down the street, who has a spare pair, wanders over to your place and offers them to you. You try to tell your neighbor that you have nothing to give them in return. They insist that it's okay because it's a gift. But you both know that you will return the favor in the future should your neighbor need something you have. You thank your neighbor for their generosity and put on your sweet new shoes. The exchange is complete.
Though this type of exchange is often referred to as a gift, if you look closely, you'll see that it resembles another financial instrument that still exists in our society today: debt. Let me buy this thing now and I will pay you later. Yes, the concept of debt is as old as money itself. Some even argue that debt is actually the earliest form of money.
Bartering was another common form of nonmonetary exchange. Bartering is where you trade goods or services for other goods or services. So again, let's assume you need a pair of shoes. To barter for shoes, you'd need to have some other thing that someone else wants. In this case, let's say that you have several extra bags of grain from your recent harvest. You need to find someone who wants grain right now, and then you'd have to agree on a price. How much grain is a pair of shoes worth? Well, it depends on whom you're asking.
There are several challenges with the barter system. First, it requires a coincidence of wants, meaning that in order for an exchange to happen, you need to find someone who has what you want and also wants what you have, which isn't always easy. Second, you can never really be certain of the value of what you have to offer. How much your goods are worth varies depending on whom you are trying to sell to, how badly they want what you have, and how many other people are offering something similar. Third, given how time-consuming and complicated trades are to negotiate, you can only rely on bartering to provide a small amount of what you need to survive.
As societies grew and became more complicated, we started to trade more often, with more people, and with people we didn't know as well, all of which made gift- and barter-based transactions even harder to manage. On top of that, we now had governments that were in charge of protecting us and creating a thriving society, and those governments needed tribute (aka taxes) to sustain themselves and their armies. We needed a way to buy the things we needed from the people who had them. We needed something that both parties valued enough to be willing to make the exchange. We needed money.
Money Changed Everything
Money evolved as a way to make trade and exchange more efficient. It was a universal store of value all on its own. People understood what a unit of money was worth and that they could use that unit of money to purchase something of value.
Money has evolved over time, with many iterations along the way. Today, we most commonly think of money as paper dollars and coins (even the value of digital currencies like Bitcoin is typically measured in terms of some other physical currency, at least for now). Money has been anything from natural objects like shells, to precious stones and minerals, to paper IOUs redeemable for grain, to modern-day digital currencies that only ever exist in virtual wallets.
Money developed in different ways in different civilizations, but there is one thing that is true across them all: Money is valuable because we agree that it is. Money's sole purpose has only ever been to help us acquire the things we want and its qualities have changed with our needs. Money has changed as our ideas of what money could be have changed.
As money has changed, so have our lives, how we live them, and what we're able to accomplish in them. As money evolved, it made it easier to trade for our wants and needs, both as individuals and as entire societies. We didn't have to rely on knowing someone to trade with them. You could meet Bob for the first time along a road one day, and he'd sell you a pair of shoes in exchange for copper coins because he knows he can immediately use those coins to buy something he needs from someone else. He doesn't have to accept a promise from you that you're good for it at some time in the future.
Money also allowed us to specialize. As transactions became easier to engage in, we didn't have to spend as much of our time meeting our basic needs. A blacksmith could earn money from people who needed horseshoes and tools; then the blacksmith could buy clothes, pans, produce, and supplies.
Money also provided opportunities and freedom. We were no longer tied to a single wealthy landowner who would provide us with food and shelter in exchange for working on their land. We could learn a new trade, move to a new city, be a day worker, and then leave that job for one that paid better.
Finally, as we've become interdependent on others to provide the majority of what we need, money has become more and more important. Even when we are no longer able to work, or just don't want to anymore, we will still need money to provide for ourselves for the rest of our lives.
Financial Systems and the Global Economy
We've had a quick history lesson about how money impacts us on an individual and societal level, but that's not the whole story. As money's influence on how we live and work expanded, a new industry sprang up around it: the finance industry. The finance industry arose as a natural result of money becoming more complex and more widely adopted, and as more people realized that money itself provided an opportunity to make more money. Governments play an active part in making, regulating, and redistributing money. We live in a global economy where the events that are happening on one side of the world can have ripple effects on the financial markets and economies of other countries. The movements of the financial markets aren't something we can control or even predict with any real accuracy. The fact that there are some aspects of money and finance that are outside our individual control can cause some people to not want to participate in financial markets because they worry about the risk. But as we'll discuss in depth in the next chapter, participating in financial markets and using them to grow your wealth is an essential part of managing your money effectively. The solution is to understand those markets so that you can make the best possible decisions and put yourself in the best possible position while minimizing risk.
