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When an absolute beginner hears ‘crypto currency’ (it’s actually one word), they might get confused. Is there more than one type of currency? And even if they do know that there indeed is more than one type of money, it is still not obvious. How come cryptocurrency is not backed by anything yet different from fiat currencies? Let’s explore what is commodity money in economics, what sets currencies apart, and how these common widely known forms compare to modern digital alternatives.
Key Takeaways
- Money that has an alternative use as an economic good is called commodity money. By its definition, commodity money is the type that derives value from its intrinsic properties: think gold or silver. Fiat money has little intrinsic value but it is backed by the government. Cryptocurrencies came as a reaction to this and proposed to replace government influence with code and computation.
- Introduction of fiat and cryptocurrencies reflects our changing needs and developing technological capabilities. It is important to know that commodity money did not vanish or get replaced but they occupy a much smaller niche.
- No single form of money wins on all fronts, as each comes with tradeoffs. Commodity money often loses in the portability or storage front, fiat is more susceptible to inflation, and cryptocurrencies are still yet to find widespread adoption.
Defining the Types of Money
Money as you know it is most likely just one facet of this concept. The term describes anything that serves as a medium of exchange, store of value, and unit of account.
Money in your bank account is not the same thing even your grandparents might have used. Depending on the monetary system, the answer to the question “is money a commodity?” varies. The commodity meaning in business is any basic good used in commerce that is interchangeable with other goods of the same type. It might be more easy to grasp if we use “commodity” in a sentence: “Gold is a commodity that has been valued across cultures for thousands of years.”
It is not about digits or cash, banknote or coin—money by definition is something valuable but not necessarily on its own. The type of money or currency that is valuable on its own, like commodities themselves used as money, is called commodity currency or money.
What is Commodity Money?
There is more than one way to explain what commodity money is. The most commonly used commodity money definition describes it as a physical good with intrinsic value and is used as a medium of exchange. The definition of commodity money in economics explains it as a currency form where the value is derived from the material of which it is made. A more simple definition of commodity money is that it’s money whose value comes from its own worth. Unlike other forms of money, commodity money keeps its value even if not used as currency.
Feeling confused by the definitions yet? It might be more clear if we use examples. What is an example of commodity money? A classic commodity money example is gold coins: the value of the coin is directly related to the precious metal it’s made of. Other examples of commodity money include:
- Silver coins (used throughout history)
- Salt (used extensively in ancient Rome)
- Tobacco (used in colonial Virginia)
- Shells (used across various cultures)
- Cattle (used in many agricultural societies)
Each commodity money example demonstrates why commodity money has value because: its worth is directly linked to the material it contains. The commodity money definition from economics emphasizes this intrinsic value as its distinguishing feature.
Make no mistake, commodity currency is not a thing of the past: cigarettes and canned food are known examples that are still being used today where your regular money is unavailable (prisons) or in crises (occupied territories).
What are the disadvantages of commodity money? Despite its inherent value, commodity money is not always portable (try carrying a cow to the market!), deteriorates over time (even gold doesn’t last forever), has problems with divisibility (how do you make change from a pelt?), and its supply can’t so easily be adjusted to meet economic needs.
What Commodity Money Isn’t
So, commodity money is not your regular, familiar cash, which does not have a lot of intrinsic value. By that logic, why are fiat and cryptocurrencies still different?
Let’s first make the fiat money vs commodity money comparison. The name fiat money, although it’s in Latin and not immediately obvious, hints that it derives its value from government decree rather than intrinsic worth and not even commodity reserves in government’s hands. An advantage of fiat currency is that it is: controllable by central authorities who can adjust money supply to respond to economic conditions.
But wait, there’s more! Token money represents value but contains materials worth less than its face value. Most coins and bills in circulation today are token money, as their material content is worth less than their stated monetary value. This is where cryptocurrencies come in: they share this characteristic with token money. Their raw form (digital code with a side of electricity) has minuscule intrinsic value but represents significantly more through social consensus and utility. A Bitcoin, after all, is just a string of numbers and we collectively agree it’s worth what it’s worth.
In the context of cryptocurrencies, token means a digital asset that uses another blockchain, as opposed to coin. ETH is a coin but USDT on Ethereum is a token.
Going back to gold seems like a dream to some but there are a few reasons fiat money is the most common form. Fiat money is much easier to use and transport and it’s noticeably less perishable. Minting more or reducing the supply lets the government adapt to the economic climate (for better or worse but more often than not for the better).
Sorting Out the Concepts
Instead of harping on with long-winded definitions, let’s compare and contrast each of the mentioned types of currency.
Commodity Money vs. Fiat Money
How does commodity money differ from fiat money? The key distinctions in the commodity vs fiat money debate include:
| Aspect | Commodity Money | Fiat Money |
| Value Source | Intrinsic value of the material | Government declaration and trust |
| Supply Limitations | Limited by physical availability | Can be expanded through policy |
| Inflation Resistance | Naturally resistant to inflation | Vulnerable to inflation through excess printing |
| Portability | Often heavy and inconvenient | Lightweight and convenient |
| Divisibility | Sometimes difficult to divide precisely | Easily divisible into smaller units |
Commodity money is characterized by its inherent value, while fiat money relies entirely on trust and legal status. Does fiat money have intrinsic value? No, unlike commodity money, fiat currency’s value comes solely from government decree and public confidence, regardless of what it’s made of. What might cause a change in the value of fiat money? Signs of crisis like unpopular government policy decisions, inflation rates, economic stability, and drop of public confidence in the issuing authority. When people lose trust in their government, we often see their currency plummet in value – something that wouldn’t happen as easily with gold.
In the fiat vs commodity money comparison, we see that fiat money emerged because it solved many practical problems of commodity money, particularly scalability issues for growing economies. However, it introduces the risk of currency devaluation through excessive issuance – just ask anyone who’s lived through hyperinflation.
Fiat Money vs. Cryptocurrency
| Aspect | Fiat Money | Cryptocurrency |
| Control | Centralized (government/central banks) | Decentralized (network consensus) |
| Trust Mechanism | Requires trust in institutions | Based on cryptographic verification |
| Transaction Privacy | Limited privacy, trackable by authorities | Varies from transparent to private |
| Creation Process | Created through monetary policy | Created through mining or other consensus mechanisms |
| Accessibility | Requires banking infrastructure | Requires internet access and basic digital literacy |
The 2008 financial crisis became a huge impetus into shaping Bitcoin and the rest of cryptocurrencies, as evidenced by the original whitepaper and even code. They offer a radical departure that doesn’t rely on trusted third parties like banks or governments. While everyone’s dollars are managed by central bankers, Bitcoin is secured by mathematical principles and a globally distributed network of computers.
Cryptocurrency vs. Commodity Money
| Aspect | Cryptocurrency | Commodity Money |
| Physical Existence | Digital only | Physical object |
| Intrinsic Value | No intrinsic use value | Has utility beyond monetary use |
| Scarcity Mechanism | Algorithmic scarcity (code) | Natural scarcity (physical limits) |
| Storage Requirements | Digital wallet | Physical storage |
| Verification | Cryptographic proof | Physical authentication |
Obviously, as they are not backed by any physical goods, cryptocurrencies are not the same as commodity money, although they might be regulated as such. Bitcoin and some other cryptocurrencies share a degree of philosophical similarities with commodity money, particularly regarding their fixed or highly predictable supply. This is why Bitcoin is called “digital gold,” because of its designed scarcity, and the process of discovering it called “mining”. The key difference? While we can always mine more gold (albeit with difficulty), we can never create more than 21 million Bitcoin – it’s mathematically impossible.
Conclusion
Although it is quite easy to grasp that cryptocurrencies are neither backed by commodities (as isn’t fiat) nor rely on the government to imbue it with value (which is why commodity money is still a thing), it can be enlightening to know exactly why it more than a “secret third thing”.
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Frequently Asked Questions
Is currency a commodity?
Usually, currency isn’t a commodity, as it can’t be used as anything other than medium of exchange or store of value. There are some exceptions: commodity currencies, which derive value from the material or can act as commodities themselves (grains etc.), or foreign currencies in the forex context.
What is the difference between commodity money and fiat money?
To define commodity money properly, we must understand that it has intrinsic value based on its physical properties (like gold’s industrial uses and aesthetic appeal). On the other hand, fiat money has value only because a government declares it legal tender. The difference between commodity money and fiat money centers on their source of value and method of production. Commodity-backed money and commodity backed currency systems are naturally limited by physical availability, making them inflation-resistant but inflexible. Commodity-backed money refers to currencies that are redeemable for specific commodities, like the gold standard. What is commodity backed money’s main advantage? It provides built-in value stability. Meanwhile, fiat money can be created as needed, offering economic flexibility but risking inflation if mismanaged. Think of it this way – a gold coin is valuable even if the government that minted it collapses, while a paper bill becomes worthless without its backing authority.
How can commodity money provide a measure of value?
The commodity money meaning incorporates its function as a measure of value through its intrinsic worth and relative scarcity. When money is tied to a physical commodity like gold, it creates a natural reference point for pricing other goods and services. This differs significantly from fiat systems, where currency debasement vs inflation presents different mechanisms for value loss. Currency debasement (reducing precious metal content in coins) has been replaced by inflation (increasing money supply). With commodity money, debasement was visible and limited – you could literally feel the difference in weight! With fiat inflation, the process is less transparent and potentially unlimited, affecting its reliability as a value measure over long periods. Have you ever noticed how your grandparents talk about buying houses for prices that seem impossibly low today? That’s fiat inflation at work.
Can cryptocurrencies be considered a new form of commodity money?
Cryptocurrencies share characteristics with both commodity and fiat money but are a distinct category. Like commodity money, many cryptocurrencies (particularly Bitcoin) have programmed scarcity that prevents arbitrary creation. However, unlike traditional commodities, they lack intrinsic utility outside their monetary function. Cryptocurrencies can be considered “synthetic commodities”: digital assets with commodity-like scarcity but without physical presence or direct utility value outside the monetary realm. The blockchain gives them authenticity and scarcity similar to physical commodities, but in a purely digital form.
What advantages do cryptocurrencies offer over both commodity and fiat money?
Cryptocurrencies combine elements from previous forms while adding new advantages. They offer resistance to centralized manipulation (like commodity money) and digital convenience (like fiat money), while adding unique benefits like programmability, borderless transfers, and potential privacy. Their most revolutionary aspect may be removing the need for trusted intermediaries in transactions, enabling peer-to-peer exchanges across global distances without banks or governments as gatekeepers.
