Advantages of Banknotes

Originally, precious and semi-precious metals were formed into coins and were used to negotiate and settle trades. Banknotes offer an alternative bearer form of money, but the advantages and disadvantages between the two forms of bearer money are complex and so in different circumstances the overall advantage can lie with either form.

The costs of using bearer money include:

Manufacturing or issue costs. Coins are produced by industrial manufacturing methods that process the precious or semi-precious metals, and require additions of alloy for hardness and wear resistance. By contrast bank notes are printed paper (or polymer), and typically have a lower cost of issue, especially in larger denominations, compared to coin of the same value.
Wear costs. Coins wear and lose mass over their economic life, and eventually are scrapped. Banknotes do not lose economic value by wear, since, even if they are in poor condition, they are still a legally valid claim on the issuing bank. However, banks of issue do have to pay the cost of replacing banknotes in poor condition.
Opportunity cost of capital. Coins have economic value and are a form of non-financial capital, however they do not pay interest. Banknotes have economic value but are a form of financial capital, a loan to the issuing bank. The issuing bank invests its assets primarily in interest bearing loans and securities, but also needs to hold metallic reserves. Thus banknotes indirectly earn interest through the investments made by the issuing bank, but coins do not pay interest to anyone. This foregone interest is the most important economic advantage of banknotes over coins.
Cost of transport. Coins can be expensive to transport for high value transactions, but banknotes can be issued in large denominations that are lighter than the equivalent value in coins.
Cost of acceptance. Coins can be checked for authenticity by weighing and other forms of examination and testing. These costs can be significant, but good quality coin design and manufacturing can help reduce these costs. Banknotes also have an acceptance cost, the costs of checking the banknote's security features and confirming acceptability of the issuing bank.
The different advantages and disadvantages between coins and banknotes imply that there may be an ongoing role for both forms of bearer money, each being used where its advantages outweigh its disadvantages.
 

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