Why do we need money?

Most people take money for granted, rarely stopping to consider its purpose or importance. Some even view money negatively, associating it with greed or inequality. But money is one of humanity's most profound inventions—a technology that fundamentally transformed how we cooperate and build civilization.

Understanding money isn't just for economists, investors or business people. It matters to anyone who's ever wondered why prices keep rising while savings accounts earn almost nothing. It matters to anyone who's noticed how much harder it seems to get ahead financially than it was for previous generations. The truth is, the money system affects every aspect of our lives, from how we plan for retirement to whether our children can afford a home.

I believe everyone should have a basic understanding of money in the same way it's important to understand what makes a healthy diet. This knowledge should be taught to children in elementary school, giving them the ability to make conscious financial decisions early in life. You will see that you don't have to study years but can understand the most important concepts quite quickly if you are curious.

This series starts with the basics—why we need money in the first place—because sometimes the most powerful insights come from questioning what we take for granted.

Why Money Matters to Everyone

Imagine a world without money where you need to acquire something you can't produce yourself. As a farmer, you might barter your crops for tools or clothing. But what if you're a software engineer trying to get lunch? The restaurant owner likely has no use for your programming skills at that moment. Even if you offered something valuable like a watch or phone, the unequal value makes direct exchange awkward or impossible. This simple scenario reveals why large-scale economies could never function through barter alone.

The Problem with Barter: Why Direct Exchange Doesn't Scale

This problem is formerly known as the problem of double coincidence of wants and refers to the fact that a successful trade via barter can only happen if both parties want what the other has to offer. When looking closer at the issue one can see that there are three dimensions to the problem.

The Three Dimensions of the Double Coincidence Problem

All those dimensions have to be "fulfilled" for a successful trade:

1. Coincidence of scale - Both goods that need to be exchanged have to have roughly the same value. We highlighted the issue in our previous example of you trying to get lunch in a world without money and only have a watch to exchange.
2. Coincidence in timeframes - Both parties have to have the good at the same time. If you are a farmer and harvest carrots only in summer, you might have a hard time the rest of the year to engage in barter.
3. Coincidence in location - Both parties have to have the desired goods at the same location. Think about a fisherman living at the coast who wants to barter with a farmer living in the inland because he desires or needs his goods.

From Self-Sufficiency to Specialization

These limitations of barter don't just make individual trades difficult—they fundamentally constrain how a society can organize its productive activities. Without money, people are forced into a pattern of self-sufficiency rather than specialization. When every trade requires finding someone who has exactly what you want and wants exactly what you have, individuals must produce a wide variety of goods themselves to survive. This incentivizes a society where everyone is moderately capable at many things but excellent at none. Money breaks this constraint by serving as a universal intermediary, allowing people to focus their productive energy where they have the greatest skill or advantage.

How Money Enables Specialization

Let's explore how this transformation happens. The only way around the double coincidence of wants problem is indirect exchange. You acquire another good solely with the intent of exchanging it further so you get what you actually want. This good becomes a medium of exchange for you in this scenario. Barter could work in small communities but obviously won't scale to larger economies and societies by any means as already finding the right trading partner has a significant cost attached. A good that is widely used as a medium of exchange is called money and is mainly acquired to be exchanged for something else later. Money is usually the most liquid or salable good due to its wide acceptance. Throughout history various goods already served as money like rare sea shells, stones, precious metals, cigarettes, government issued paper money etc.

The utilization of some form of money allows and fosters specialization in a society because one can exchange your goods for money to be able to exchange it for what you need at a later point in time. Why is that? Because in a world without money you have to face the limitations of barter (as highlighted by the double coincidence of wants problem), you have to work around those limitations and prepare for it accordingly. How? Likely you try to produce a variety of goods in contrast to specialize to be able to have a variety to offer to hopefully overcome the problem of coincidence of wants and be able to get what you need and when you need it. In contrast, in a world with money one can specialize and focus on producing whatever you are good at (as long as there is demand for it of course) and become even better and more efficient. For example, a carpenter can focus on producing high quality products in an efficient way while not having to learn how to harvest food at the same time. The carpenter can receive money to be able to exchange it at a later point in time for food as needed.

The Magic of Price Signals

Money doesn't just make specialization possible—it makes it effective by creating markets with meaningful price signals. When goods and services are priced in money, these prices communicate valuable information about what society needs and values. A carpenter can determine whether to specialize in making furniture, cabinets, or wooden toys based on the prices each commands in the market. These price signals guide individuals toward specializations that are most valuable to others, efficiently allocating talent and resources across society. Additionally, this system encourages producers to invest in tools and processes that increase their productivity, as the market rewards such efficiency improvements. This system naturally encourages efficiency and innovation, typically resulting in better products at lower costs over time. Without money and the price system it enables, we would lack this crucial feedback mechanism that helps coordinate millions of independent decisions into a functioning economy.

The Three Functions of Money

When a society adopts a good as money (e.g. gold), people naturally start pricing goods and services in units of money. This makes value comparisons easier and simplifies trade further. It is referred to as money acting as a unit of account.

It is common sense that one naturally wants to store some form of wealth in money because it acts as a kind of insurance as you can quickly liquidate it, i.e. exchange, for whatever you need as for example you get unemployed. This highlights another important function of money namely being a store of value. A fisherman would never try to store his wealth in fish as he knows it will rot very quickly and thus doesn't even have an easy opportunity to store his wealth without any form of money. But why is saving money, i.e. storing value, actually important? Storing wealth enables you to plan more long term and build a life. Everyone who ever had financial struggles in life knows that you can't plan for the future if you don't have any money.

Money as Stored Time

Money can also be viewed as a method to conserve your time worked. This concept of money as stored time is profound when you think about it. When you work, you're essentially converting your limited time on earth into money. In a barter economy, the value of that time would quickly deteriorate if stored in perishable goods. With proper money, the fruits of your labor can be preserved.

If you work for a month and save half your earnings, that money represents two weeks of your life's energy and effort. Good money allows you to reclaim that time later—perhaps to take time off work, invest in your future, or pass on your accumulated labor to your children. In this way, money conserves human time and energy, allowing us to store our productive output and use it when and where it creates the most value for us. Without this ability to store value effectively, we would be forced to live much more in the present, unable to save for large purchases, unexpected emergencies, or retirement.

We can see that having a form of money is generally very beneficial to society because:

1. It acts as a medium of exchange and thus considerably lowers trading costs which in turn enables a more efficient economy and specialization.
2. It acts as a unit of account as the value of goods and services will be measured in units of money which in turn creates valuable price signals leading to efficient resource allocation in markets.
3. It acts as a store of value which enables long term planning for the future.

Money as a Technology for Human Cooperation

Beyond these three traditional functions, money serves as a powerful enabler of social cooperation. As Lyn Alden highlights in her work 'Broken Money,' money is essentially a technology that allows humans to cooperate with people they'll never meet. It creates a common language of value that works across cultural and geographical boundaries. Without money, cooperation would be limited to small communities where trust and direct exchange are possible. With money, we can participate in a global network of cooperation, with billions of people making decisions and creating value together in ways that would otherwise be impossible.

It is obvious that some goods are better or less suited as money than others. But what makes actually good money? That's what we'll look at in the next post.