This essay explains the use of fiat money, or why intrinsically useless objects are accepted as payment in transactions. People accept a particular object as a means of payment because others do: social conventions matter more than the intrinsic characteristics of the object itself. Not everything can become a fiat money, though. If an object is especially costly to hold, for example, it will not be accepted as a means of payment. This explanation of fiat money is illustrated in a simple theoretical economic model.
This essay is reprinted, with the publishers' permission, from _The New Palgrave Dictionary of Money and Finance_, ed. Peter Newman, Murray Milgate, and John Eatwell; London: Macmillan Press, New York: Stockton Press. © Macmillan Press 1992.