What is a ‘legal tender’? What is ‘fiat money’?
Legal tender money. Money that has a legal sanction by the government behind it, is called legal tender or legal tender money. It is money issued by monetary authority or the government which cannot be refused by any person in payment for transactions. Government issues an order describing what is money and that becomes legal tender money. Everybody is bound to accept it in exchange for goods and services and in discharge of debts. No one can refuse to accept it because non-acceptance is an offence. For example, in India currency (notes) and coins are legal tender money which cannot be refused in payment for transactions. In this context chequable demand deposits is not money because a person can legally refuse to accept payment through cheques. The legal tender status given by the government to money may be limited or unlimited.
Fiat Money. Fiat money is any money backed by the order (fiat) of the government to act as money. People have to accept it in exchange for goods and services and in discharge of debt as the government has ordered it to be money. It is also called legal tender as it circulates in the country on the fiat (i.e., command) of the government. Fiat money is generally created and issued by the government at the time of crisis like war or emergency. Since it is issued, without any backing of gold, silver or other reserves, therefore, it is inconvertible (not convertible) into anything than itself.
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