The value of Fiat currency is a nation's credit, and that is because it is used to clear off debt by the citizens of a nation.
Fiat currency is, thus, a government issued-currency that is not supported by physical commodity, such physical commodity can be gold or silver.
The value of fiat money then is gotten from the relationship between supply and demand and the stability of government issuing it instead of the worth of a commodity that backs it.
For example, the United states dollar, euro and many world currencies are all fiat currency.
Government, historically, mint coins from valuable physical commodity and print paper money that could be redeemed for a particular amount of physical commodity.
In the case of inflation or hyperinflation, fiat money tends to loose value and this is because it is not connected to physical reserves such as gold or silver. if people lose faith in the country's currency, it tends to lose its value.
This is entirely different from currency that is backed by gold mainly because the demands for products made of gold such as jewelries, computers, electronic devices and aerospace vehicles are very high.
Fiat currency is issued by most government as legal tender for the purpose of debt repayment
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The fiscal and monetary policies affect the value of the fiat currency.
Further explanation:
Fiat money:
The fiat money is the currency issued by the government but the currency is not backed up by any commodity such as gold and silver. The value of the currency is determined by the demand-supply relationship and government stability. The currency is issued on the faith of the government. The U.S. dollar is an example of fiat money. As the fiat money is not backed up by any commodity, the change in the value of the currency depends upon the faith of the people on the currency. If the people of a country would lose the faith in the currency, the currency would be worthless.
Factor affecting the value of fiat currency:
The value of the fiat currency depends upon the fiscal policy of the country. The fiat currency is not backed up by the commodities. Therefore, it is merely depends upon the people’s faith upon the government. The government of a country can be tested by the fiscal policies made by it. The fiscal policies are the roadmap of the future growth a country. Therefore, the fiscal and monetary policies of a currency can affect the value of the fiat currency.
Thus, the fiscal and monetary policies affect the value of the fiat currency.
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Answer details:
Grade: Senior School
Subject: Economics
Chapter: Currency
Keyword: determines, value, fiat, currency, factors, money supply, commodities.
