History of money

Autarky: Countries are self-sufficient and do not trade with each other

Legal tender: medium of payment recognized by a country's legal system

Troc/Barter: Exchange of products of similar value (prehistoric Europe)

Problems:

1. Valuation: hard to find equivalent between dissimilar products such as, for example, wheat and wood on which all participants to the trade taking place would agree upon (two people won't value the same product the same way based on personal preferences, background, etc);
2. Timing issue: a cattle herder wanting vegetables has to find a farmer willing to exchange his tomatoes for cattle (if the farmer wants honey, then the herder is screwed! Well, not really, but he has to find someone else...)
3. Storing: some products such as food cannot be kept for a long time for future purchases
   

Gold and Silver money: value of currency is defined by intrinsic value and weight of metal used in composition (ancient Greece, Rome and medieval Europe)

Problems:

1. Through use, the coins could end up loosing part of their metal thus loosing their value (debasing)
   
2. Metal could be voluntarily scratched off from the coins in an effort to gain (debasing)
   
3. Gold and silver coins could be melted and mixed with alloys and then re-transformed into coins (debasing)
   
4. Cumbersome to carry.
   

Receipts, bills of exchange and promissory notes: paper issued by international bankers upon the receipt of gold or silver coins and convertible back into coins at sight upon presentation of note; primarily used by travelers in order to avoid theft (started in the Xth century in Italy and spread into Europe; still used until the XIXth century)

Banknotes: same concept as promissory notes, though these are issued by banks when one makes a deposit or a loan. Is used as an exchange medium between particulars as an alternative to coins based on the assumption that the note can be exchanged with gold and silver coins at the bank. Basis of today's monetary system and money creation. As notes often circulated for a long time without being reclaimed, a bank could lend more money than it actually had as deposits. (started out in VIIth century China and spread out in Europe in the XIVth century).

Bill of credit: paper issued by governments similar to banknotes. Provincial governments exchange these notes with gold and silver coins in order to pay their obligations (somewhat similar to treasury bills from this perspective). Bearers can then use them to pay taxes (started in XVIIIth century America)

Problems with paper money:

1. No fixed value and is therefore susceptible to devaluation when a country suffers from inflation.
2. No intrinsic value and therefore is only useful as long as people have confidence that it will be accepted as a means of payment or that it can easily be converted into gold or silver coins
3. Banks suffered frequent runs by customers who lost confidence in the value of their notes and who tried to convert them into treasury coins. However, as banks lend a big percentage of their deposits, they don't have sufficient funds to face such a scenario and they would often be forced to declare bankruptcy.
   

Fiat money: paper issued by an official institution (usually a central bank) and whose value is given by government regulation or law and is not backed up by gold or treasury coins.

In order to solve the confidence crisis, governments assigned the production of notes to a unique official institution (usually a central bank). The time of implementation of this system varied greatly from one country to another. The first central bank was created in Sweden in the XVIIth century, while in Brazil this only happened after World War Two. The purpose of central banks was to restore the public's confidence in the banking system and also to fight inflation. Up until the 1950's (1970's in the case of the US), the notes printed by central banks were still convertible into gold at a predetermined rate. The gold standard was eventually dropped as it imposed many restrictions upon loans and commercial activities and this brought about fiat money.

Electronic money: as with initial bank notes, individuals nowadays rarely retire the full amount of their deposit with a bank. Payments are primarily made through checks or bank transfers. Therefore, deposits are used to make loans which then will be used to make other deposits. This process creates liquidity through banks' electronic recordings on their balance sheets. What's more, with the growing popularity of credit and debit cards, paper money is rarely used anymore and some even predict its extinction in favor of "electronic money".