Reply To: Relationship Between Money and Money Substitutes


It is the issuer of the money substitute who guarantees redemption. It is this objective fact that is a precondition for the bank customer to consider his checkable account funds as a money substitute. He has a reasonable expectation that merchants at large will accept his checking account funds in lieu of cash.

In similar fashion, certificates of deposit issued by banks are credit instruments, banks guarantee repayment of principle and interest, that do not function as a medium of exchange. When customers take money into and out of their CDs this doesn’t alter the objective fact that the CDs are credit instruments. Likewise when customers take cash into and out of their checking accounts this does not change the objective character of either cash or checkable deposits.

Banks guarantee redemption of checkable deposits into cash in order to increase the value to customers of such deposits by establishing the preconditions for such deposits to be a medium of exchange. Banks do not need to make any guarantees regarding cash itself to grant cash status as a medium of exchange.