Fiat money (”fiat”, Latin for “let it be done”) is another term for our traditional money like USD, EUR or GBP. It is issued by governments in the form of paper notes and coins. Fiat money gets its value from government regulations rather than a real commodity it represents, such as gold or silver.
It has no intrinsic value. Fiat money is issued as legal tender, meaning you must accept it as payment for goods and services. A central authority like a central bank needs to back fiat money and maintain its supply. There are multiple benefits using fiat money.
For instance, it is durable and easily transportable. It also does not need to be physically exchanged for every transaction. Goods or services can also be bought through debit and credit cards. It is also divisible into smaller denominations, which promotes commerce and allows all kinds of payments.
However, these benefits come with some major drawbacks. It is not suitable as an investment vehicle as it provides low returns compared to other hard assets such as stocks, bonds or real estate. Additionally, governments can print additional fiat money whenever they need.
This can fuel inflation and makes it difficult to control the supply. Finally, if the government collapses or the country falls into an economic crisis, fiat money may be rendered worthless in a short amount of time.