Question

The three functions of money are: a. Liquidity, store of value, and gifting. b. Medium of exchange, unit of account, and liquidity. c. Liquidity, unit of account, and gifting. d. Medium of exchange, unit of account, and store of value.

Short answer

d. Medium of exchange, unit of account, and store of value.

Step-by-step solution

Understand the Concept

Before we identify the correct option, it's crucial to understand the fundamental functions of money. Money traditionally serves three primary functions: it acts as a medium of exchange, a unit of account, and a store of value.

Analyze the Options

Now, examine each provided option to identify which one corresponds to the functions defined in Step 1. - Option a: Mentions liquidity and gifting, which are not standard functions of money. - Option b: Includes liquidity, which is not a primary function, and excludes store of value. - Option c: Also mentions liquidity and gifting instead of medium of exchange and store of value. - Option d: Lists all three primary functions: medium of exchange, unit of account, and store of value.

Choose the Correct Option

Based on the analysis in Step 2, Option d is the only choice that accurately reflects the three traditional functions of money. It includes the medium of exchange, unit of account, and store of value.

Key concepts

Medium of Exchange

Money serves as a medium of exchange, which means it is widely accepted in transactions for goods and services. Before the concept of money, people relied on barter systems to trade goods directly. However, this system had limitations because it required a double coincidence of wants—each party had to have what the other desired. Money simplifies this process by acting as a universally accepted intermediary.

• It reduces transaction costs by eliminating the need for a perfect direct exchange.
• It fosters economic activity as it provides a simple way to exchange resources efficiently.

With money acting as a medium of exchange, economies can grow as trade becomes more effortless and suited to meet the needs of communities.

Unit of Account

The unit of account function of money allows it to provide a standard measure of value in an economy. This means that goods and services can be valued in a consistent way using money. It allows individuals to compare the value of different commodities easily.

• This clarity makes financial planning and record-keeping straightforward.
• Prices, costs, and profits are expressed in monetary terms, simplifying economic calculations and transactions.

By having a common metric for value, the unit of account helps to eliminate confusion in price tag comparison. This, in turn, supports budgeting and financial management for businesses and households alike.

Store of Value

Money's role as a store of value involves its ability to retain worth over time. This allows individuals to save money for future purchases, extending its utility beyond immediate exchanges. Unlike perishable goods, money is expected to maintain its purchasing power, assuming it remains stable against inflation.

• This characteristic encourages saving, investment, and financial stability.
• It helps transmit value into the future, enabling postponed spending and ensuring future purchases.

However, the effectiveness of money as a store of value can depend on the broader economic environment, like inflation rates, which might affect purchasing power. Nonetheless, when stable, money preserves economic value through time.