After this section, you will be able to:
• explain the development of barter
• describe the role of money
• identify the instruments of exchange
• interpret information on various
instruments of payment

Production involves using natural resources, human effort, tools and other resources to make goods and services to satisfy our needs and wants. Needs may be defined as goods or services that are necessary for survival, whereas wants may be defined as goods or  services that one desires but are not necessary to one’s survival. An example of a need is water, and an example of a want may be a particular brand of sneakers for school. A good may be defined as a physical product, whereas a service may be described as a product we experience. A tangible commodity can be held, seen or touched, whereas an intangible commodity cannot be seen, held or touched, but it can be experienced.

Many years ago, before the development of business activities, our ancient ancestors produced all the things they needed or wanted for themselves, either individually, for their own families or within their local communities. For example, they would grow or hunt for the food they needed, build their own places of shelter, make basic clothes from wool and animal skins to protect them from the cold, produce cooking pots from clay and so on. Anything they were able to produce they would consume themselves to meet their basic needs for survival. This is called subsistence production.

Few people or communities were able to produce very much. They lacked skills and access to other resources. For example, some villages were located on good farmland while others were in woodland areas able to supply timber to make spear rods, boats and to build shelters. Similarly, some people and communities were better at making spears and pottery while others were more skilled at hunting and fishing. Over time, therefore, people and also entire communities began to specialize in those productive activities they were best able to undertake with the limited natural and other resources available.

This specialization enabled communities to produce more food or pots or other items than they needed themselves. That is, it resulted in a surplus they could exchange or trade with other people or communities for the goods or services they were able to supply.

As individuals or whole communities began to focus their efforts on the production of one or a small number of different goods they were able to produce far more in total than they had previously when they tried to produce everything they needed for their own survival.

Over time, repetition of the same productive tasks increased their skills, abilities and knowledge in their chosen specialisms. Not only did it allow them to produce more but it also allowed them to offer their skills and know-how to others, for example as carpenters, iron mongers, plasterers, weavers and painters.

Specialization in production therefore not only required communities to exchange their different goods with each other but also encouraged trade in services. As a result each community was able to enjoy a wider variety of goods and services than they did before specialization, and businesses also began to develop.

THE DEVELOPMENT OF THE BARTER SYSTEM

The earliest form of exchange was barter. It involved trading one good or service for another of equal value, without the use of money. If you swap your watch for a classmate’s bag, then the two of you have engaged in barter. The actual items aren’t relevant – you might be exchanging a pen for a pencil instead – but the essential fact is that barter involves the exchange of similar items, or items of similar perceived value, as agreed by two individuals. However, the barter system had some key limitations that caused issues for our ancestors.

For example, imagine a farmer had produced a surplus of bananas and wanted to trade for an axe. He or she would have travelled to a local market to find someone who supplied axes. But how many bananas would the axe maker want in return for one axe? And what if the axe maker only wanted mangoes? The bananas would probably have rotted or perished by the time the farmer had got to another market and searched for an axe maker who was in need of some bananas.

Barter therefore had a number of major disadvantages that greatly outweighed its benefits.

Do you need to know how to define a need and want?

Advantages of Barter
• It encouraged specialization in production and
better use of available resources.
• It increased the total volume and variety of
goods and services available for trade.
• It allowed for greater variety in diet as early
families could exchange different food items
with each other.
• It provided a means to avoid losing any
surplus produced.

Disadvantages of Barter
The Need for a Double Coincidence of Wants
Finding someone to trade items with is one of the major limitations of the barter system. People were required to find buyers who not only wanted the surplus that they had for sale but could also supply the item or items they wanted in exchange. That is, there had to be a double coincidence of wants for exchange to take place using barter. However, finding one was often difficult.

For example, let us assume that an early fisherman caught some sardines, far more than he wanted, and therefore wanted to exchange them for some mangoes instead. He would have needed to find a farmer who had surplus mangoes available that he wanted to exchange for some sardines. However, if the farmer with the mangoes was not interested in exchanging them sardines, then their respective wants would not coincide. That is, a double coincidence of their wants did not exist. As a result, barter between the fisherman and the farmer would not have been possible.

Difficulty Establishing an Agreed Rate of Exchange
Even if an individual could be found who was willing to engage in barter, they both still faced the problem of agreeing on an appropriate value and rate of exchange between the items they wished to trade. For example, how many bananas is one axe worth; how many axes should exchange for one cow; how many cows for a boat and so on.

Indivisibility of Goods
Some items are difficult to trade because it is impossible to divide them into smaller parts, for example to provide change when two items being exchanged are not of equal value. For example, it would not be sensible to take the wheels off a cart in order to exchange it for a less valuable set of pots. This is because the cart only has value it has wheels. The same would apply to sawing up a boat into smaller sections or only producing half a pair of trousers!

Inability to Store Wealth
A final problem is how to save or store wealth in a barter system. A carpenter could store surplus tables and chairs but would need a large store room to do so. However, imagine trying to store meats, fruits or butter for long periods of time many years ago. They would quickly perish and lose their value, especially in countries with hot climates.

Barter, therefore, was and remains a very inefficient method of exchange. Our ancestors therefore needed to find something that overcame the problems and made trade easier. That commodity had to be something everyone would be willing to accept in exchange for all other goods and services. The search for such a commodity led to the development of money.

THE ROLE OF MONEY
Early Forms of Money
Money is a medium of exchange that is generally accepted within a society. It can be any commodity that people are willing to accept in exchange for all other goods and services.

A vast range of different objects have been used as a medium of exchange at one time or another in the past in different countries. These have ranged from beads, feathers, shell, grain and even small stones. This was followed by the use of gold, silver and other precious metals which in turn led to the development of coins and also banks in the form of Goldsmiths.

Goldsmiths had vaults in which they kept gold, silver and other precious metals they used to make coins, jewellery and other items. Other people would also deposit their coins and other holdings of precious metals with Goldsmiths for safe keeping. In return, Goldsmiths would issue each customer with a written paper receipt noting how much their individual deposits were worth. Customers could then return at a later date to exchange their paper receipts for their deposits of precious metals. Alternatively, they could
exchange them for goods and services with other people who could instead take the paper receipts to Goldsmiths to retrieve the valuable metals. Receipts issued by Goldsmiths therefore became the earliest form of paper money. 

Eventually people no longer required coins to be made of precious metals, or notes to be a claim to deposits of gold and other valuable metals. Instead notes and coins that were not backed by precious metals became generally accepted as money.

Over time, therefore, people slowly discovered, through a process of trial and error, that some items fulfil the functions of money better than others.

The Functions of Money
For a commodity to be recognized and accepted as a money it must be able to perform the following functions:

Function of money | Description
To provide a generally acceptable medium of exchange | This is the main function of money. A commodity that everyone accepts in exchange for all other goods and services overcomes the need to find a double coincidence of wants in barter.

To be a unit of account | This means the value or prices of all other goods and services can be expressed in units of money. This overcomes the need to fix rates of exchange between every different item in a barter system.

To be a good store of value | Money should not perish or lose its value over relatively short periods of time. Unless prices are rising rapidly, money tends to hold its value over time. This allows money to be saved or stored and used to make payments at a later date.

To provide a means of deferred payment | If money holds its value then it allows people to purchase items or borrow money and postpone making payments into the future. This has allowed the development of the banking system and businesses to sell goods on ‘buy now, pay later’ credit terms such as hire purchase.

The Characteristics of Money
Money has distinctive characteristics and if a commodity is to perform the functions of money well it must possess the following characteristics:

Characteristics of money
It is portable | It is not bulky or heavy and can be easily transported.
It is divisible | It can be divided into smaller or fractional units. For example, dollars can be divided up into cents.
It is acceptable | It is accepted by people and businesses in exchange for other goods and services.
It is durable | It doesn’t perish or wear out quickly. Coins and bank notes are designed to last, and any worn bank notes are replaced.
It is scarce | It has value because it is limited or restricted in supply.
It is homogenous | It is easily recognizable as money. Coins and bank notes are similar in appearance and feel.

The Importance of Money
It is important to note that the modern notes and coins we use have no intrinsic value. That is, they are token money because they are made from materials that are worth far less than the face values imprinted on them.

The development of modern money has meant people, communities and businesses can specialize further in the production of those goods or services they are best able to, and then can use the money they earn to buy all the other goods and services they may need or want from other producers.

It has allowed people to specialize in particular occupations and receive money in payment for their work. And it has allowed entire countries to specialize in the production of limited goods and services they are best able to produce using their natural and other resources, because money allows them to trade internationally with each other through the exchange of their foreign currencies.

Money, therefore, encourages specialization at the local, regional, national and even global level by making trade easier. It has allowed more businesses to develop and more jobs to be created. It has increased output and incomes and improved living standards for many people. This is the true value of modern money.

INSTRUMENTS OF EXCHANGE
The Need for More Efficient and Secure
Methods of Marking Payments
As business activity and trade increased, more
notes and coins were needed to make payments.
However, carrying lots of notes and coins around
was difficult and risky. Physical money was bulky
and could easily be lost or stolen.
Sending notes and coins over long distances to
businesses located many miles away or even in
other countries was also highly problematic. It was
very slow and expensive and the money could
easily go missing with no way of checking if it had
reached the businesses intended. As a result, it
was difficult for businesses to sell their goods and
services to any customers who did not live nearby.
This limited their scope to expand their production
and sales.
To overcome these problems, different instruments
of exchange have been developed over time to
make payments with money quicker, easier and
more secure.
The Development and Role of the
Banking System
Business organisations known as banks initially
developed to provide a safe place for people and
businesses to deposit their notes and coins. In
return they would issue claims to each customer
with a paper claim to their deposits.
However, banks noticed that most people and
businesses would add to their deposits over time.
They rarely withdrew their accounts in full. Banks
were therefore able to start lending some of the
money they held to other people and businesses.
In this way banks created more money, simply
by recording the value of loans made into books
of accounts. For example, imagine that a small
clothing maker was granted a loan from a bank for
$100 to buy a sewing machine. The bank would
simply record the loan as a credit of $100 to the
bank account of the clothing maker. It did not need
to issue it with notes and coins. To use the loan to
make the payment to the supplier of the sewing
machine, the clothing maker could then ask the
bank to credit the bank account of the equipment
supplier with $100 and debit their bank account by
the same amount. The transfer of money between
bank accounts did not require any notes and coins
to change hands.
Transfers between bank accounts are now the main
way money is created and exchanged in modern
economies. Notes and coins make up very little of
the total supply of money in different countries
today and are declining in use.
Identifying the Different Instruments
of Exchange
Many different instruments of exchange are used
today in trade to make and receive payments in
exchange for goods and services. They include
cheques, credit cards and electronic bank transfers
among others.
A cheque is an instrument of payment where
an individual or company directs his/her bank to
pay someone a specific amount of money from
his/her bank account. Cheques are generally
valid for six months. Important features of a
cheque include:
• a cheque number (every cheque in a cheque
book is numbered chronologically, and this
number is normally located to the top right
corner of each cheque); the cheque number
helps with record keeping, and guards against
the risk of fraud or theft of a cheque from an
individual’s cheque book
• the date (day, month and year)
• the name of the recipient of the cheque (payee)
• the amount of money being paid out to the
recipient (in words and figures)
• the signature of the person issuing the cheque
(drawer)
• the bank from which the money is being
drawn (drawee)
• the account number of the drawer (this is
normally located to the bottom of the cheque)
• the cheque stub or counterfoil (this is part
of the cheque that is kept by the drawer after the cheque is torn off from the cheque book
at the perforated line; the cheque stub serves
as proof that a transaction between the drawer
and the recipient was paid for by cheque); on
the counterfoil the drawer should enter the
following:
• the date of the transaction
• the nature of the payment made with the
cheque (e.g. purchased one printer from
Computer World for $500.00)
• the drawer’s signature at the bottom.

Video with check…..

Types of Cheques
There are various types of cheques. These include:
• open cheques
• crossed cheques
• post-dated cheques
• dishonoured cheques.
Let us briefly explore each of these types.
Open Cheque
An open cheque is ‘uncrossed’, meaning it does
not have two parallel lines drawn across it. Open
cheques are not considered to be very safe because
if lost or stolen, someone else besides the payee
or endorsee may be able to cash them. Banks
therefore encourage the use of crossed cheques
rather than open cheques. An open cheque can
be taken to the bank to be converted into cash
immediately or paid into a bank account.
Crossed Cheque
A crossed cheque has two parallel lines on the face
of the cheque with or without words written in
it. In general crossing words such as ‘A/C Payee’,
‘& Company’ or ‘Not Negotiable’ are written
between the parallel lines. In special crossing, a
bank’s name is written. In addition, the words ‘A/C
Payee’ and ‘Not Negotiable’ may be included in
specially crossed cheques. A crossed cheque cannot
be cashed at the bank, it can only be paid into the
payee’s account. Crossed cheques are therefore
considered to be safer than open cheques.

Post-dated Cheque
A cheque that is dated sometime in the future
is called a post-dated cheque. The bank will not
process the cheque before the specified date. For
example, on November 25, 2018, John writes out
a cheque to James ordering his bank to process
payment to James on or after January 16, 2019.
Should James attempt to cash that cheque before
January 16, 2019, it will not be processed.
Dishonoured Cheque
A cheque that is paid by the drawer’s bank is said
to be honoured. A cheque that has not been paid
by the drawer’s bank is said to be dishonoured.
Dishonoured cheques are often referred to as
‘bounced cheques’. A cheque may bounce for the
following reasons:
• the amount of money stated on the cheque
is more than the amount of money in the
drawer’s chequing account
• the drawer cancelled or stopped payment of
the cheque
• the drawer closed his bank account before the
cheque has been presented for payment
• the signature on the cheque does not match the
signature kept on file by the bank
• the value of the cheque was not written in both
words and numbers, or there was a disparity
between the words and numbers written
• the cheque is stale (presented for payment after
six months have passed)
• it is a post-dated cheque and the date of the
cheque is still in the future
• the cheque has been altered and the alteration
not verified by the drawer
• the court of law orders the bank to cease
payment of the cheque
• the name of the payee or account number is
not written clearly.

Common Instruments of Exchange
You will now explore other instruments of exchange that are commonly
used in business transactions.

Instrument of
exchange
Description
Credit card A small plastic card utilised as a form of payment in business transactions. Credit cards allow individuals to
purchase goods and services immediately and pay back the credit card company with monthly payments in the
future. The credit card company will charge the customer interest if his/her account is not fully paid off by the
end of the month. Interest payments on credit cards can be quite high.
Debit card
(Linx card)
A small plastic card given to persons who have commercial bank accounts. This allows individuals to pay for
goods or services without having to physically carry around notes and coins. It is generally a safe method to
use, since each customer has a Personal Identification Number (PIN) that must be entered to make a purchase.
To facilitate payment by this means stores must be equipped with a Linx machine rented out by the banks.
Some small businesses especially do not accept payment by debit card given the banking fee attached to each
customer’s use of the Linx machine. As a result, individuals can withdraw cash from automated teller machines
(ATM) using their debit cards.
Bill of
exchange
A bill of exchange is usually used to facilitate international trade between organisations located in different
countries. It is also used to facilitate trade between local businesses. It is a written order that binds one party to
pay a fixed sum of money to another party at a predetermined future date. The business or person who prepares
the bill of exchange is referred to as the ‘drawer’, and the business or person who receives or accepts the bill of
exchange by signing it is referred to as the ‘drawee’. When the drawee signs the document it becomes a legally
binding agreement between the two parties.
Electronic
transfers
This involves the electronic transfer of money from the bank account of one bank customer to the bank account
held by another customer in the same bank or a different bank. It is generally considered a secure and fast
means of making payments.
Internet
banking
This service allows customers to bank at any time of day from their homes, offices or any other location via their
cell phones, laptops or tablets. Customers can check their bank balance, make payments or transfer funds from
one account to another – among other services.
Tele-banking Telephone banking services allow customers with personalised services to speak directly, via the telephone, to
a bank employee regarding issues or queries with their bank accounts, for example to arrange a payment to an
electricity supplier or another business that has supplied goods or services.
Money order This can be used by anyone, even those without a bank account. It resembles a cheque but does not contain
sensitive information that appears on a cheque, such as your bank account number. A money order is paid
upfront and payment is guaranteed by the money order issuer – unlike a personal cheque which may ‘bounce’
due to inadequate funds. As such it is a good method of payment, especially when parties do not fully know
or trust each other. Like cheques, you can stop or cancel payment on most money orders. Money orders are
available from banks, retail stores and the post office in some countries. There is usually a small fee for using a
money order.

Instrument
of exchange
(continued)
Description
Bank draft Very similar to a cheque, and sometimes referred to as a manager’s cheque. The key difference between a regular
cheque and a bank draft is that the bank draft guarantees payment of funds by the bank. As such a bank draft will
not ‘bounce’ like a cheque. The bank will set aside or put a hold on the customer’s bank account funds so that they
are reserved and therefore available for the payment of the bank draft to the recipient. A bank draft is, therefore,
more reliable than a cheque and is normally used for large payments such as purchase of a car, house, appliances, or
payment of university tuition. Bank drafts can be made out for any amount and are used for international payments
as well. International bank drafts can take a few weeks to be cleared while local bank drafts can take a few days to
be processed. There is a fee attached for use of a bank draft.
Telegraphic
money
transfer
Telegraphic money transfers, or wire transfers, were used before electronic payment networks were more prevalent.
They are faster than other payment methods, taking a few days rather than a few weeks, and are therefore
more expensive than other methods. Most banks have a SWIFT (Society for Worldwide Interbank Financial
Telecommunication) code, which allows the bank to be easily identified, enabling interbank transactions to be done
faster. The following is required to process a wire transfer:
• the receiver’s name
• the receiver’s bank account number
• the name and address of the receiver’s bank
• the SWIFT code of the receiver’s bank
• the value of the payment.
M-Money/
Mobile Money/
Mobile Wallets
Modern technology allows persons to receive, store and spend money via their mobile phones. This service is usually
provided by the same telecommunications mobile service provider, and the customer’s cellular phone number serves
as his/her unique account number. Using this, customers can transfer funds to another person, pay for small business
transactions, or withdraw funds from their M-Money account at service provider outlets in their home country. Transfers
to M-Money accounts usually arrive instantly in the recipient’s M-Money account. The sender of the Mobile Wallets
funds receives notification that the funds were transferred successfully, and the recipient receives a notification that
funds were deposited in his/her Mobile Money account.

Electronic Commerce
An additional instrument of exchange which
developed as a result of the development
of the internet is electronic commerce
(e-commerce).
e-commerce may be defined as business
activities (such as marketing of goods or
services) or business transactions that entail
the use of a computer-mediated network.
For example, the internet; World Wide Web;
email; fax; intranet (internal networks within
an organisation; only employees within an
organisation have some level of access to
that network) or extranet (an intranet
that is partially accessed by external
stakeholders of a business, e.g. suppliers).
e-commerce has resulted in the rise of
numerous online stores or e-stores which
provides consumers with the ability to browse
products marketed online and pay for them
electronically through the use of credit cards or
debit cards. Some companies have e-commerce
websites in addition to physical retail premises,
enabling consumers to choose whether to
purchase online or in store. Some companies,
however, operate entirely through e-commerce,
such as Amazon.

Advantages of e-Commerce
• Businesses can market and sell their products to
large numbers of customers, anywhere in the
world and 24 hours each day.
• Consumers are able to search for the products
they want from a much larger number of
competing businesses. Consumers therefore
benefit from more choice and variety as well
as lower prices, because there is increased
competition between online businesses
attempting to attract their custom.
• Decreased retailing costs – businesses have
lower overhead costs as there is less need for
‘brick and mortar’ or physical store locations.
• Retailers can quickly respond to customer
queries or complaints online and provide
customers with current information. This allows
businesses to build one-to-one relationships
with their customers.
Disadvantages of e-Commerce
• It usually involves no human contact and
therefore cannot provide personalised services.
However, some business websites enable
customers to live ‘chat’ online with their
sales staff.
• Customers are unable to see, touch, experience
or inspect products before purchase.
• e-Commerce requires the use of internet
connections, electronic devices or credit cards.
These are not available to everyone around
the world.
• Technology is constantly changing, and it may
be difficult and costly for businesses involved
in e-commerce to keep up.
• Stiff competition. There may be numerous
businesses online offering similar services.
Businesses compete even more or spend a lot
of money on marketing and advertising to get
their websites seen by consumers who will buy
and use their products.
• Problems can arise with the delivery of items
purchased given the distances between
suppliers and their customers around the world.
Delivery charges often apply and goods can
often be delayed or go missing in transit. Also,
depending upon the distance between suppliers
and customers around the world, high delivery
charges may be applied.
• Damaged goods can be difficult to replace and
customers may be required to pay a return
shipping fee.
• Security issues regarding personal and financial
information put consumers at risk of identity
theft and online scams or fraud.