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Question
Explain the 'medium of exchange' function of money. How has it solved the related problem created by barter?
Solution
Medium of exchange:-
The primary function of money is to act as a medium of exchange between two parties involved in a transaction. It avoids the practical problems of wastage of time and resources involved in the barter system of exchange and it improves the efficiency of the transaction. It promotes allocation efficiency in the trade and production of goods and services.
In case of the barter system, the sale and purchase of goods occurs at the same time. Their sale and purchase value also remains equal at that point. A person can purchase or sell goods with cash without selling or purchasing any good at that point, after money came into existence. Thus, the act of purchase and sale has been separated. Thereby the medium of exchange facilitated sale and purchase very easily in terms of monetary value.
For example, a fruit seller wants to sell his fruits to buy wheat. In the absence of money, he will have to look for some person who wants to sell wheat and buy fruits. This is not always easy and possible. However, with money as a medium of exchange, the fruit seller has to just find a buyer for his fruits. When fruits are exchanged for money, he can purchase wheat from the market.
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