Fiat money

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Definition

Fiat money is a currency (paper money) accepted as money through a government decree. Specifically, by government decree, it serves the following roles:

  • It is treated as legal tender: if one person meets a debt by paying using the currency, the payment is considered valid in a court of law. Thus, legal claims on money can be settled using the currency.
  • It can be used by individuals to pay taxes to the government, and it can be used by the government to meet its payments.

The extent to which fiat money comes to play the role of money depends on the credibility of the government and its monetary and fiscal policy. In situations of hyperinflation, for instance, fiat money becomes worthless and people revert to commodity money.