Rational Planning Model – Part III – Strategic Option Generation (Part 05)

So far four other strategies for businesses have been discussed in the previous articles. This will be the fifth and the last of the third area of the Rational Planning Model. Another matrix will be discussed under this final part.

Need-Provision Matrix

This matrix is specifically designed for the public sector organizations, which are rather into social welfare than profit maximization. However in the allocation of resources towards the best interests of the society, public sector organizations too do have to develop strategies, to ensure the effectiveness and the efficiency of the process.

The matrix consists of the need for a product (high and low) and provision of resources by the private sector (high and low).

                                     Need

               Low                             High

No Provision	Selected Provision
Encourage Others	Extensive Provision

High

                Provision By Others

Low

No Provision

This is where the need for the product is low yet the private sector is providing for the product highly. Entertainment industry can be taken as a close example. The ‘need’ for entertainment is low (the ‘want’ for entertainment is high), but the private sector is generating wants out of entertainment industry.

Selected Provision

This is where the need for the product is high and the private sector provision is high too. In such cases the public sector will only intervene if necessary. Health industry shows these characteristics. Public sector will only intervene when there is some massive capital expenditure.

Encourage Others

This is a situation where the need for the product and the provision by the private sector are both low. Public Sector will motivate the private sector to provide for any low demand for the product.

Extensive Provision

This is where the need for the product is high and for some reason the private sector provision is low. Mostly very expensive provisions fall into this category or completely social welfare motive businesses are found in this category. Examples include maintaining law and order, national security and infrastructure facilities. 

Rational Planning Model – Part III: Strategic Option Generation (Part 04)

After a series of Michael Porter’s theories on strategy generations, this article focuses on Igor Ansoff’s ‘Ansoff Matrix’.

Ansoff Matrix – Igor Ansoff

This is also known as ‘Product-Market Matrix’ due to the fact that this theory focuses on the development of strategies based on products and the markets. The matrix focuses on existing products and markets and new products and markets and how strategies should be developed to face each situation appropriately.

Market Penetration

This is the strategy that should be adopted by a business when an existing product is introduced to an existing market. The market is already occupied with the same product and hence the business will have to adopt some pricing strategy to penetrate the market, preferably a cost leader approach.

Diversification

This strategy should be adopted when a business enters into a new market with a new product. A new product naturally signifies ‘differentiation’ from the existing products. However diversification is a broader concept. 

Two major aspects of diversification are horizontal diversification and vertical diversification. Horizontal Diversification signifies entering into different businesses that are related or close to the products of the current business (Eg: A soap company entering into shampoo industry). Vertical Diversification signifies a business entering into the different levels of the supply chain of the same business. (Eg: A cereal producing company purchasing a corn field – Upward Integration or the same cereal company purchasing a cereal distribution company – Downward Integration).

Product Development

This strategy deals with a business introducing a new product to the existing market. Hence strategies to develop the ‘product’ have to be initiated. Marketing, advertising, product promotions, discounts are a few strategies to be adopted.

Market Development

This is where a business introduces an existing product to a new market. So strategies to develop the market have to be adopted. Having a proper distribution channel, having convenient outlets to facilitate easy access for customers are some strategies that could be adopted. 

Rational Planning Model – Part III: Strategic Option Generation (Part 03)

The previous article discussed about the Diamond Theory introduced by the famous strategist Michael Porter. In this article too yet another theory put forward by him will be discussed. This strategy is known as the Five Forces Theory.

Five Forces Theory – Michael Porter

Unlike Generic Strategy and Diamond Theory, this model focuses on industry competition and developing business strategy on an industry level. This theory talks about five aspects of the industry which the business should be aware of and take into account when developing business strategy.

1. Bargaining Power of Customers
2. Bargaining Power of Suppliers
3. Threat of New Entrants
4. Threat of Substitutes
5. Rivalry

Bargaining Power of Customers

This focuses on the bargaining power of customers within the industry as a whole. Bargaining power means the ability to influence the price of a product. Higher the bargaining power, the higher the influence of the customers will be and hence the lower the prices will get. A single customer cannot affect the market price in a general industry. However when customers get organized, unionized or when customers are backed up by government institutions, their bargaining power becomes much more intense. Hence businesses will have to be aware of the nature of the influence of the customers when setting strategy.

Bargaining Power of Suppliers

This means the bargaining power of suppliers. Bargaining power is the same concept as mentioned above and the only difference is that in this aspect, the influence of suppliers is considered. Naturally one supplier cannot influence the market price but when they are organized their power is more. They can organize and create artificial shortages of products and drive the prices up. Hence the business has to strategize to face such situations.

Threat of New Entrants

This is where the business has to focus on the new competition that generated through new businesses entering the industry. The more businesses are in one industry, the more competition will occur. A considerable level of competition is good for both the businesses and the customers. Customers will be able to enjoy competitive prices whereas businesses will be forced to be innovative and implement cost reduction practices. However very strong competition is not beneficial. Businesses will lower their prices further and further in order to attract customers and will come to a level where the business cannot cover its daily expenses. That will force the business to liquidate.

Threat of Substitutes

This is where the business has to focus on the substitute products available beyond the industry. All products can be considered to be substitutes within and industry, and that’s what makes it an industry. However this aspect focuses on the likely substitutable products outside of the industry. For an example rice could be identified as a substitute for bread, although paddy cultivation and bakery industry are entirely two different industries.

Rivalry

This merely focuses on the competition within the industry. Higher the competition the more strategic businesses will have to be, the more innovative and more differentiated.

Rational Planning Model – Part III: Strategic Option Generation (Part 02)

The previous article discussed about the Porter’s Generic Strategy model and this article will discuss about another strategy that’s important for any business. This strategy too was implemented by Michael Porter and is named as ‘Diamond Theory’.

02) Diamond Theory – Michael Porter

This theory specifically discusses about the factors/conditions that affect a business to develop a competitive advantage over another business and come to be ‘global businesses’. Michael Porter put forward this theory in his publication ‘The Competitive Advantage of Nations’.

The theory focuses on four aspects that make the businesses globally competitive.

1.        Demand Conditions 
2.        Factor Conditions
3.        Firm Structure, Strategy and Rivalry
4.        Related and Supportive Industries

Demand Conditions

This represents the home demand for a company. In simple, the demand for the product by the country in which the business originated affects the development of the business largely. A good and strong demand from the home country will tempt and challenge the business to innovate and evolve.

Eg: The local demand for chocolates and wrist watches made Switzerland the global leader in chocolate products and wrist watch industry.

The demand for fashion within Italy made it to be the hub of world fashion.

Factor Conditions

This represents the availability and the usage of factors/resources by a business to develop a competitive advantage. According to Porter natural availability of factors is not good for the business, since then the businesses are not motivated to innovate and crate factors. These factors can include human resources, capital resources, natural resources and intellectual resources.

Eg: Availability of natural oil has given the countries in the Middle East a natural competitive advantage; however this has lead such countries to innovate less.

Firm Structure, Strategy and Rivalry

This represents how the structure (flow of decision making), strategy (the business’s course of action to achieve objectives) and rivalry (competition) help the business in gaining a competitive advantage.

Firm structure that aids fast and flexible decision making, strategy that allows achievement of objectives and rivalry which pushes the businesses beyond the limits are vital for the growth and development of a business.

Related and Supportive Industries

Diamond theory shows that a business cannot function on its own. It needs aid from a variety o other businesses, which are also known as auxiliary services. These supportive industries could be transportation, communication, warehousing, financial etc.

A strong integration between these industries will help a business to develop long term relationships, gain cost benefits and gain a competitive advantage in the long run.

Rational Planning Model – Part III: Strategic Option Generation (Part 01)

There are several options when it comes to business strategy. Different strategists have come up with their own versions and methods of developing strategies that best suit businesses in different business conditions. One of the most prominent and highly regarded such strategy is the ‘Generic Strategy’ model put forward by famous strategist Michael Porter.

01) Generic Strategy – Michael Porter

In this model, Porter has put forward very basic two strategies that businesses could adopt. Although the strategy seems simple and harmless, almost every business needs to decide on one of the strategies put forward in this model. The two strategies are;

1. Cost Leadership
2. Differentiation

Cost Leadership

This is the strategy where businesses try to be the lowest cost/price option in the market thus attracting more customers who are more focused on cost rather than uniqueness of a product.

A cost leader is the business that provides products at the lowest in the market or at very competitive low prices; hence this gives them a competitive advantage over other businesses that have higher prices. Customers are rational, meaning they will always try to maximize personal satisfaction and in this case personal satisfaction means best product at the lowest price possible. So as rationale customers, the market will prefer the low cost option most of the time (because this option will not work with products where the price is associated with prestige and a certain higher standard of living).

Businesses that are into selling essential commodities can adopt this strategy better than any other industry.

A cost leader will always have the generic product (basic product), no improvements, nothing additional, so as to keep the cost and thus the price to a minimum level. A cost leader will have only a smaller margin (profit) over a product, however it is compensated with the higher volume of products sold.

Differentiation

This is a strategy where the business focuses on providing a unique product rather than the same product provided by the competitors.

This will set aside the company from the competition and provide a competitive advantage.

These businesses can either, innovate a new product, improve the existing product or provide additional benefits/features with an existing product, thus differentiating them from the rest. This will require further spending and hence the price will be naturally higher, but customers who like something new, innovative and fresh will always go for these products rather than the same old product.

Due to the unique nature of the product, differentiators will be able to charge a higher price and earn higher margins, but the sales volumes will be relatively low, since not all customers are lavish spenders.

Eg: Apple products deliver a unique experience than any products of its nature. Hence the price is very high, yet there is a huge demand for the products.

Efficient Market Hypothesis (EMH)

This is the age of information, where information is more powerful than any weapon. The markets are changing rapidly and information is the key to identifying such changes and reacting to them in the best possible way. Information gives us the business a path to follow, targets to achieve and a competitive advantage, if used correctly.

Efficient Market Hypothesis (EMH) defines three levels of information availability in a market (mainly financial markets).

1. Strong Market
2. Semi-Strong Market
3. Weak Market

Strong Market

EMH says that in a strong market perfect information exists and is highly efficient in information distribution. This means that, in a market, all past information, present information, all disclosed information and all undisclosed information are publicly available. In practice, this is highly unlikely and could be concluded that such markets do not exist. If such markets exist, everybody would be making unlimited and continuous profits within markets, and that is not practical.

The prices of financial instruments trading in these markets will instantly reflect the availability of undisclosed information (insider information). 

Semi-Strong Market

EMH defines a semi-strong market as one with all past information, present information and all disclosed information. Typically this is the type of market that exists most of the time. Businesses will do anything to prevent important information leaking out to the market  since that gives their competitors an enormous advantage. So undisclosed information stays undisclosed and publicly hidden.

The prices of financial instruments trading in these markets will instantly reflect the availability of public information. 

Weak Market

EMH says that Weak Markets only give out the past disclosed information to the public. Decision making can be tough and rigid in these types of markets.

In these markets prices of financial instruments will only reflect based on the past information.

Sources : http://en.wikipedia.org/wiki/Efficient-market_hypothesis 

Benchmarking

The modern business world is highly dynamic and competitive. It is highly essential to stay on top of the game even to survive in the industry. This is where benchmarking becomes helpful to all organizations.

Benchmarking is the process of comparing our performance with the industry best performance and developing strategies to reach that level. In this process we can identify our weaknesses and limitations and the strengths of the best performer and try to develop our own strengths.

Benchmarking is threefold,

1. Internal Benchmarking
2.  External benchmarking
3. Strategic Benchmarking

Internal Benchmarking

This is where certain departments or sections of an organization benchmark each other. The significance is that performance comparison is done within the organization itself. For an example the production department may have an optimum output of 5 million units, and the marketing department can benchmark this and try to sell all of the units.

External Benchmarking

This is also known as competitor benchmarking. Yes, this is where an organization compares its performance with the best in the ‘industry’, usually the market leader. This will allow the company to really realize the weaknesses of the organization as a whole.

Eg: Lexus benchmarking BMW and Benz.

Strategic Benchmarking

This is a more ‘ambitious’ approach where a company benchmarks itself with one of the best in the whole market, despite the industries. This could be quite overachieving since there maybe companies that have unlimited potential than the industry our company operates in. However this form of benchmarking will really give a boost to our company performance.

Despite these benefits benchmarking does have some disadvantages. The main one being, losing focus on the customer needs. The company maybe striving to achieve the best performance and amidst all this commotion we may forget what our customers really want. Also a ‘best practice’ may not remain for a long time. The best performer will always try to achieve more, so there will be an endless tailing behind the market leader. Also there is no way to be sure that industry best performers’ strategies will suit our organizational culture and structure and this may lead to resistance to change.

Game Theory (Economics)

What is Game Theory? It is the study of the interactions between a few or more elements occurring in a specific environment. That is my version of the definition of course, the way I understand it. However Game Theory appears in many fields of studies, for an example more commonly in mathematics and economics.  John Forbes Nash was the Nobel Prize winning mathematician who is honoured with the formulation of the Game Theory.

In economics Game Theory refers to;

“the study of mathematical models of conflict and cooperation between intelligent rational decision-makers” – Wikipedia

Simply it is a form of strategic decision making relevant to the competition within a market.

Game Theory consists of four core areas.

1.  Deterrence
2. Cooperation
3. Changing the rules of the game
4. Repeat games

Deterrence

This means that the players within the industry/market compete so heavily that it actually results in negative outcomes for all the players and the sustainability of the industry. Basically it leads to ‘unhealthy competition’.

Features of Deterrence

•           Reduction of prices
•           Heavy expenditure on advertising simply to fight competition
•           Unethical competition
•           Liquidation of businesses unable to face heavy competition

In such instances the government or any other regulating body will have to intervene the market and implement some rules, regulations and restrictions to save the industry.

Cooperation

This is quite the opposite of Deterrence discussed above. Here the players in the market will understand the market and the existence of other players and work in cooperation. The players will understand and respect the values and long term vision of the industry and will not act to destroy it for personal gain.

Changing the rules of the game

This is where some player in the market decides to do something different or swim against the current. The player will try to change the structure and the form of the game in order to achieve a competitive advantage over the other players. It could work both ways, for his advantage or for the downfall if not implemented properly.

Repeat Games

This is simply the cycles of games being played over and over again throughout a period of time. This is quite similar to Cooperation. The players will acknowledge the presence of other players in the market and adjust themselves based on the strengths and weaknesses of each player.

Rational Planning Model: Part I - Mission and Objectives

Mission and Objectives

The first step or part of the Rational Planning Model is the evaluation of business’s Mission and Objectives. Mission in simple terms is the ‘reason for the existence of the business’ or ‘what the business is doing’ in the market. This, however, is not as simple as that when it comes to the practical sense. A Mission defines the scope of the business, the ideology of the founders of the business and mission statement almost never changes. A change in the mission signifies a change in the whole structure and composition and culture of the business. 

Click here to read some mission statements of some top companies.

Objectives, on the other hand, are rather short term and subject to change. Objectives are specific, quantifiable and realistic targets for the business. We identify objectives as SMART (Specific, Measureable, Achievable, Realistic, and Timely). It is not necessary for objectives to have all these characteristics.

Eg: Increase annual revenue by 5%

      Achieve a 20% growth in customer base

In developing a strategy for the business and almost in all other aspects concerning business activities, mission and objectives play a vital role. They are the driving factors that guide the business and its employees towards one goal. This is known as achieving goal congruence. No matter what strategy is imposed by the management everything should ultimately lead to reaching the objectives.

This is the first step of the many steps to come in developing a strategy.

To read the introduction to strategy visit: http://lifeasweknowit-njkblackhat.blogspot.com/2012/09/business-strategy.html

Business Strategy

We all have different ideas as to what strategy is. Some may think it is a tactic or other may think it is a plan. Well both of them are not far off, since an accepted definition for Strategy says ‘a course of action/plan that is developed or designed to achieve a set of objectives’. In simple words it is a set of rules and guidelines that will help us achieve some target we have set.

A Business strategy is pretty much the same, whatever the actions taken by a business to achieve its set objectives. A strong strategy is important for any business to distinguish themselves from the competition and face it. Also it is important to be aware of the competition’s strategy when preparing our strategy.

Business Strategy is mainly evaluated through the Rational Planning Model which is demonstrated as below.

Every bit of planning and organizing and strategizing in an organization should start with its mission and objective statements, because every action taken by the organization should eventually lead to achieving business’s mission and objectives. A corporate appraisal is carried out to understand the current position of the business both internally and externally. A preferred analysis method would be SWOT analysis. Then it is essential to generate strategic options which are in line with our business position and mission and objectives. In the next step those strategic options should be evaluated and the best option should be selected. Such strategy should then be implemented and reviewed and controlled as and when required.

A more detailed look into the each of the steps of the Rational Planning Model will be conducted in the articles to come. Keep in touch and comment for any questions and ideas.

Money (Part III) - Money in the international market

Local and Foreign Currency

It’s a pretty obvious understanding but nevertheless I’ll go ahead with the definitions of them. Local Currency is the notes and coins that are used by a country within its geographical boundaries. Every country has its own local currency. It might be internationally used but still it’s their local currency as well. So Foreign Currency is naturally any other currency (note or coin) that is being used by other countries.

So when it comes to the International trade how does this work out? Two different currencies may have two different values altogether. For an example, $1 will most likely not equal the value of GBP1 or 1 Euro. Although the face value is 1, the real value, i.e. the good and services that can be bought with this 1 dollar, Great Britain pound or the euro will not be the same. To overcome this, economists have come up with the term ‘Exchange Rate’.  

Exchange Rate

Exchange Rate is the rate at which one currency unit of one country is exchanged with another currency unit of another country.

For an example as of today (19-02-2012) 1 US Dollar = o.759 Euros

                                                                      1 US Dollar = 0.631 Pounds

                                                                      1 Euro = 0.83 Pounds

Almost all the country’s currencies can be converted as above.

The practical application of the exchange rate is as thus. In the above figures, 1 US Dollar equals 0.759 Euros. This means that any good that costs 1 dollar in the United States will only cost 0.759 Euros in the European region. So we can roughly come to a conclusion that goods in the European region are cheaper than that of the US, hence they cost less.

There are two types of Exchange Rates mainly.

1) Fixed Exchange rate – the exchange rate of the domestic currency is fixed with another country. It’s not allowed to fluctuate. This is done by the Central Bank of a country on behalf of the Government. Fixed exchange rates could have many advantages, the most prominent being predictability. Importers and exporters are aware of the exchange rate and can be pretty sure about the future rate as well. This will help avoid unexpected losses due to exchange rate fluctuations.

2) Floating Exchange rate – here the exchange rate is allowed to float at will. Not at will exactly, but it will float mainly based on demand and supply factors and a million other small factors. An increased demand for the local currency will improve its value and thus decrease the exchange rate and vice versa. However from time to time the Central Bank will influence this rate to get things back in favour. This is known as ‘Managed Floating rate’.   

Foreign Direct Investments (FDI)

These are capital investments made by one country in projects of other countries. Here the exchange rate is widely used since fluctuations in the exchange rate could affect the value of the investments.

International Monetary Fund (IMF)

IMF is an international organization striving to achieve global monetary cooperation, secure financial stability, sustainable economic growth and reduce poverty around the world. (Source : http://www.imf.org/external/about.htm) It grants funds to poor countries to complete various projects. For more info visit : http://www.imf.org/external/index.htm

IMF headquarters is located in Washington DC, USA.

World Bank

World Bank is another international regulator, who provides funds, grants, loans and various subsidies for developing countries.

For more info visit : http://www.worldbank.org/

The headquarters are located in Washington DC, USA.

From the next article we hope to bring you all about the black money and how an economy responds to black money.

Thanks for reading.

Good Luck - NJK Stock Market Guide

Money (Part II) - Where does it come from?

Where does money come from?

Money, so important to us, does not just appear. It is made like any other product. The government and the Central Bank of a certain country are the authorities held responsible for printing and issuing money to the general public. There are specialized companies to print and mint money. (Eg: Thomas De La Rue) We may think that these companies are so rich since they print money, but the truth is they cannot print money at will. They can only print money when a government places an order to print money, just like producing a normal good upon customer order. Unlike normal businesses, money printing companies cannot keep stocks, obviously, they will mostly operate once and order is placed.

Money Supply

Money Supply (AKA monetary base, base money, money base, reserve money)  is the total money in circulation in an economy at a given point of time. Simply, how much money is within the economy at a certain point of time? Money Supply is a key variable within an economy. It affects the economy and all its activities to a great extent. Money supply affects the price levels, interest rates, investments, production, consumption etc. So how is this money supply measured? It can be measured in 4 ways.

1    1)      M1 – Narrow Money Supply

Narrow Money includes all the cash in hand of the general public and all the demand deposits of the public held in commercial banks.

2    2)     M2 – Broad Money Supply

M2 consists of M1 plus all the Savings deposits of the public held in commercial banks

3    3)     M2b – Consolidated Broad Money Supply

M2b consists of M2 plus all foreign currency deposits of the public in the commercial banks.

4    4)     M4 – Very Broad Money Supply

This consists of m2b plus all the savings and fixed deposits of the public held in financial institutions other than commercial banks.

So that’s a lot of money within an economy and has to be managed effectively. The sole authorities responsible for managing and controlling the money supply in an economy are the government and the Central Bank of the specific country. However the Central bank only engages in the process on behalf of the government.

The main method of influencing the money supply in an economy is through the Repo and Reverse Repo market. These are the two markets that the central bank uses to issue and purchase treasury bills and treasury bonds of the government. (Treasury Bills are short term debt instruments issued by the government to settle their short term cash deficits)

In the Repo market the central bank will issue T. Bill to the general public and people/commercial banks will buy these bills spending the cash balances they have, thus decreasing the money in circulation within the economy. Remember, the above categorization of money supply did not include anything about money held by the government or the central bank. So when the central bank absorbs the cash in the economy it’s like gone or lost.

On the other hand in the Reverse Repo market, the central bank will buy back the T. Bills they issued earlier, of-course at a higher price than what they were sold for. So the person who bought the T. Bill has a capital gain plus an interest component associated with the bill. So when the central bank buys back the bills, it will release the money held with them to the economy thus increasing the money supply.

Intrinsic Value and Extrinsic Value of money

Money basically has two values. Yes! The value mentioned on the face of the note or the coin is known as the extrinsic value of money. It’s the value assigned to the specific note or coin. For example the extrinsic value of a $100 note is simply hundred dollars. And the note can be used to do transactions up to a $100. However, this note is printed on a paper, yeah some special paper, but still a paper. This piece of paper definitely does not worth $100. The real value of the note (paper) is known as the intrinsic value. It might be eve less than $0.50 for the $100 bill.

Features of ‘Good Money’

= General acceptability – money should be accepted by everyone as a medium of exchange

= Scarcity – should be difficult to find and obtain

= Durability – should be durable due to heavy usage

= Divisibility – can be divided in to smaller units (Eg: dollar can be exchanged to two 50 cent coins)

= Portability – should be easy to carry around…

In the next part we will discuss about how money functions in the international market.

Thank You for reading.

Good Luck – NJK Stock Market Guide

Money (Part I) - History and Evolution

Money

We use it every day, we cannot spend a day without it, we touch it, we feel it, we spend it, and we earn it. Yes, it’s money. It has become almost impossible to live without money. Don’t agree? Well, continue reading.

We wake up in the morning, from our bed, let’s assume $150. Turn off the alarm in the clock, which is, say $20. We go to the bathroom, wash ourselves up, we may not notice at the instance but the water bill is getting accumulated everytime you turn on the tap, shower etc. Then you get dressed up, $20 shirt and $20 trousers, pair of shoes $30 and all other what-not’s. Then you leave the house, get into a bus, pay $2 or something and get to your work. Before going in you decide buy a burgher from a stand, $2. I could go on and on like this. The point to be taken is that, money is so close to us, it’s so engraved into our lifestyle, it’s so significant and delicate.

So let us now take a little tour into the world of Money. Starting from the history and expanding to the future of money and most importantly, how to have enough of money forever. Take a deep breath and read on.  

What is Money?

First up, before heading into the history it’s better have a general idea what money is. If I ask you what money is, you’d probably say $1 note, $100 note, penny coins etc. Well, that’s only a part of the story. Because by definition money is “anything that can be used as a medium of exchange”. Wait, what? In simple it says, money can be anything, it does not necessarily be notes and coins that we use today. It can be anything as long as it is accepted as a medium of exchange. “Medium of exchange” means something that can be exchanged with another. Hence the medium should be accepted by all the parties involved in the transaction.

Let’s say for an example that I need to buy a new TV which costs $1000 and let’s assume that I have only $600 in cash with me. If the TV vendor agrees I can pay the balance $400 with something else, say some piece of jewelry I have. So in this case, the jewelry too is accepted as money since it aided in completing a transaction.

Likewise money isn’t only the notes and coins we use today. This will be further illustrated in discussing the history and evolution of money in the coming paragraphs.

History and Evolution of Money

The history of money dates so far into the history to the times when ancestors used little pebbles to buy things from others. Yes! That happened. But exchange of goods and services started even prior to that in an era named ‘The Barter System’.

The Barter System

The Barter System means a system where commodities were exchanged for commodities. In simple goods were exchanged for goods. There was no ‘money’ involved here. People exchanged their excess production with someone else’s excess. The system had many failures such as;

•    No double coincidence of wants - this means that not always did everyone’s wants match. Someone would have excess rice and want some eggs. But the one who has eggs may not want rice. So the coincidence of wants between parties was not always there and this hindered transactions largely.
•       No specific unit of value - it was hard to define a value to each product.
•      No specific measure of value – there was no way of determining what the exchange rate should be. i.e. how much rice should be exchanged for a bag of rice.
•       Difficulties in transporting goods – goods had to be carried around the villages and even to other villages to be exchanged.
•        Perishable good like food items could not be stored for long.

Due to such drawbacks people soon realized that exchanging goods for goods wasn’t a very effective system.

Then came the use of medium of exchanges for transactions. As I’ve mentioned above, this could be anything.

Commodity Money

This is the second era of the evolution of money, when people shifted from the Barter system to the use of a medium of exchange instead of goods.

In this stage people started using small stones, pebbles from the seashore, rare feathers, tobacco etc for transactions. These are the earliest stages of money. These items had assigned values, but often were not very decisive on their values. At first these items were rare to be found but later on people found more and more pebbles at the seashores, more feathers from birds, they started growing tobacco, and so the value of these commodities as money ceased. They needed something more consistent and limited in supply.

Paper Money

This is the third stage of evolution of money and the earliest stage of the money known to us today.

In early societies goldsmiths were the wealthiest people in the village. When people wanted to buy something, they would take something of value to the goldsmith (not necessarily, someone of wealth would also be sufficient) and keep the goods with the goldsmith and take a note from him signed to the value that he has kept with the goldsmith. Then this paper was valid to do any transaction up to its value mentioned. With time this system too came to pass.

Notes and Coins

The first notes and coins that we use today were printed In England by Stockholms Banco in 1661. Since then these notes and coins have evolved in different material, shapes, sizes and values.

Modern coins are minted in silver, copper, nickel etc. And money notes are made out of special paper that withstands heavy use, wear and tear.

E-Money / E-Cash

This is the modern plus future of money. Money in the electronic form. Even today with or without our knowledge we use E-money for online purchases, online payments, credit settlements etc.

Paypal, Alertpay, Moneybookers are a few examples of the institutions that facilitate online payments. Besides these specialized institutions, almost all commercial banks provide online payment facilities nowadays.

These are the four eras of development of money to the present stage. This is a very brief introduction to the four stages. But I hope you gained some knowledge. This is merely the beginning og the journey with the money. Await the next part to know about, where does money come from? Who supplies and controls money? and many more.

Thank You for reading.

Good Luck - NJKStockMarket Guide