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In this article we will discuss about:- 1. Meaning of Paper Standard 2. Merits of the Paper Standard 3. Demerits.
Meaning of Paper Standard:
Paper standard consists of paper money which is unlimited legal tender and token coins of cheap metals. Paper money may be either convertible or inconvertible. Convertible paper money is convertible into gold or silver coins or bullion of specified weight on demand. Paper money is not convertible into coins of a precious metal of bullion now-a-days.
Therefore, it is inconvertible. People accept it because it is legal tender. Since it has the command of the government, people have to accept it. That is why it is also known as fiat money or standard. It is also referred to as managed standard because the issue of paper money and token coins is managed by the central bank of the country.
Merits of the Paper Standard:
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The paper standard, which is universally used, has a number of merits:
1. Economical:
The paper standard is cheaper than gold or silver standard. There is no need to waste gold or silver for coinage purposes. Rather precious metals can be used for productive purposes and for making payments to foreign countries. As paper money is not convertible, there is no need to keep gold in the form of reserves. The monetary authorities keep only a fixed quantity of gold in reserve for reasons of security. Thus the paper standard is cheap and economical and even a poor country can easily adopt it.
2. Elastic:
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The paper standard is a highly useful monetary system because it possesses great elasticity. The monetary authority can easily adjust the money supply in accordance with the requirements of the economy. This was not possible under the gold standard. The supply of money can be increased by printing more notes in times of financial emergency, war, and for economic development. It can also be reduced when the economic situation so demands. Thus there is also freedom in the management of the money supply in the economy.
3. Price Stability:
As a corollary to the above, the paper standard ensures price stability in the country. The monetary authority can stabilise the price level by maintaining equilibrium between demand and supply of money by an appropriate monetary policy.
4. Free from Cyclical Effects:
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The paper standard is free from the effects of business cycles arising in other countries. This merit was not available to other monetary standards, especially the gold standard, where cyclical movements in one country were automatically passed on to other countries through gold movements.
5. Full Utilisation of Resources:
The gold standard had a deflationary bias whereby the resources of the country remained unutilized. Whenever there was gold outflow prices fell and resources became unemployed. But this is not the case under the paper standard in which the monetary authority can manipulate the monetary policy in order to ensure full utilisation of the country’s resources.
6. Equilibrium in Exchange Rate:
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One of the merits of the paper standard is that it immediately restores equilibrium in the exchange rate of a country whenever disequilibrium occurs in the demand and supply of its currency in the foreign exchange market.
7. Portable:
It is very convenient to carry large sums of paper money from one place to another.
8. Easy to count:
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It is easier to count paper money than metallic money.
9. Easy to store:
It is easier to store large sums of paper money in a small space.
10. Cognisable:
It is easy to recognise paper notes of different denominations.
11. Replaceable:
Paper notes of one type and denomination can be easily replaced by printing notes of different types of the same denomination.
Demerits of the Paper Standard:
Despite these merits, the paper standard has certain disadvantages:
1. Inflationary Bias:
One of the serious defect of the paper standard is that it has an inflationary bias. As paper notes are inconvertible, there is every likelihood of the government printing notes in excess of the requirements. Or, the government may deliberately resort to the printing press to meet a financial emergency or war or even to meet ordinary budget deficits. This leads to excess of money supply and to inflation in the country.
2. Price Stability a Myth:
It has been pointed out in the merits of the paper standard that it leads to price stability. In actuality, price stability is a myth as has been the experience of the majority of countries on the paper standard.
3. Exchange Instability:
Another disadvantage of this system is that it leads to instability in exchange rates whenever there are large fluctuations in external prices as against internal prices. Such wide and violent fluctuations in exchange rates are harmful for the growth of international trade and capital movements among countries. These have led governments to adopt exchange control measures.
4. Lacks Confidence:
Paper money lacks confidence as it is not backed by gold reserves.
5. Lacks Durability:
Paper money has less durability than metallic coins. It can be easily destroyed by fire or insects.
6. Unstable:
Paper money lacks stability because its supply can be changed easily.
7. Uncertainty:
Instability in the value of paper money leads to uncertainty in the economy which adversely affects business and economic progress.
8. Token Money:
Paper money is token money and in the event of de-monetisation of notes, they have no intrinsic value and are simply like waste paper.
9. Not Automatic:
The paper currency standard does not operate automatically. It is a highly managed standard which requires much care and caution on the part of the monetary authority. A little carelessness may bring disaster to the economy.
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