The money system in a nutshell:
When we need something from someone — a product or a service — we have to give something in return of agreed equal value. This is the definition of trade — something for something. If what we give in return is a different product or service, then we have bartered. On the other hand, we can exchange a product or service for a specific commodity called money whose value is universally recognized, and which can be used as a medium of exchange. Money is absolutely essential for the smooth running of any free society, and is indeed the cornerstone of democracy.
More traditionally, money was in the form of something that was perceived to be valuable in its own right, such as coins made of precious metals, tobacco or rum. This is called commodity money because it has a value in its own right which makes it much easier to get widespread acceptance. Commodity money, due to its intrinsic value, tends to hold more public confidence during troubled times when confidence in the money system is low.
The other type of money is called fiat money — its value is given by decree (or fiat) from the government or banking authority. It has no intrinsic value (usually it is worthless paper, base metal or numbers on a computer screen) but it is still useful to think of it as a commodity, albeit an abstract commodity. Because this type of money is free from the constraints of an actual physical commodity, it can be controlled much more easily by the banks that issue it. Although fiat money systems are certainly nothing new, they now completely dominate the modern world.
For money to be most useful to society there has to be an optimum amount to facilitate trade. Too little and you get deflation of the money supply which leads to a recession — the economy slows down as there is too little money to facilitate trade, and this is further compounded by everyone's natural desire under such circumstances to horde what they have, taking even more money out of circulation. A serious recession is called a depression. All depressions are due to a contraction of the money supply by those who control it. (It is erroneous, for example, to believe that the stock market crash of 29 precipitated the terrible US depression in the early 30s when it was, in fact, the deliberate and irresponsible reduction of money supply by the Federal Reserve Bank.)
Too much money, on the other hand, and you get inflation — the money system itself devalues as there is so much of it around, making everything cost more and leading to wage-price spirals. This further releases more money into the system as people try to get rid of their saved money (which will have a diminishing value) by exchanging it for something that they perceive will hold its value better such as stocks, property, gold, silver or foreign currencies. Inflation tends to happen when governments go on a spending spree which is financed by borrowing more money from the banks.
Both shortages and excesses in money supply can suffer from runaway effects, which bring society to its knees, which is why it is so important to tightly and responsibly control the money system. In a democracy, this control must be undertaken by an accountable and public organisation working in the interests of the people — i.e. the government. If the balance in money supply is just right and enough money is issued to facilitate all trade throughout society (with growth in the money supply only occurring to match population growth), then society's wealth is maximised. Under such optimum conditions, money used wisely like this can very positively transform society.
If money was solely issued for the benefit of society, as it should be in any democracy, economies would be stable, nations would be evenly prosperous (without a large divide between rich and poor), and that shared prosperity would bring both national and international peace. But as is always the case with any commodity, especially one so desirable, there are those who wish to control money through their greed and lust for power. They are the money lenders.
Whenever money is lent to somebody, aside from paying back the original amount borrowed, there is an additional charge to cover the risk that the lender might never be paid and for the lender's loss of use of that money. This lending fee is called interest as it represents the self-interest of the lender. When money is being borrowed from a private individual or corporation, that interest tends to be much higher as the lender charges as much as he believes he can get away with because his self-interest is paramount — unless of course he is a charity. (So destructive can the charging of interest be on a community that the Church classified it as a sin called usury right up to the end of the Middle Ages, and it still is a sin for Moslem fundamentalists.) On the other hand, when money is borrowed from a government or public organisation, interest tends to be much lower (if anything) because such organisations have a mandate to act for the collective interest, which is certainly not to fleece the citizens they supposedly represent!
One of the key methods used by central banks to control the money system is by manipulating the different rates of interest within that system. Raise interest rates and borrowing becomes expensive so money is left with the banks and the money supply dwindles. If interest rates are lowered, however, borrowing is encouraged and more money is released into circulation.
