Forms of Money

Demerits of Paper money

• Danger of inflation
• Exchange rate instability
• Dangers of mismanagement
• Fear of demonetization
• Use within the country

1. Danger of inflation

• Under paper money, the increase in money supply is not difficult because it requires no backing of gold or silver.
• The government of the country, to cover the deficit financing, over issues paper currency.
• This results in inflationary rise in prices with all its evil effects.

2. Exchange rates instability

• Under paper standard, there are also wide fluctuations in the foreign exchange rates.
• The internal prices do not move in line with the external prices.
• As such external instability arises which directly effects the foreign trade.

3. Dangers of mismanagement

• Paper standard is useful only when it is efficiently managed.
• If the monetary authority is not vigilant and does not issue the paper currency as required, it often leads to inflation or deflation.

4. Fear of demonetization

• The paper money has no intrinsic value of its own.
• The monetary authority also does not promise to convert it into precious metal.
• If the government at any time orders the demonetization of the currency, And the holders of the demonetized notes fail to deposit these notes in times, they have then no value.

5. Use within the country

• As the intrinsic value of paper money is zero, it can only be used in the country issuing it.
• Outside the country only stable paper money has the value.

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