Legal, Functional and Broad Definitions of Money: (Functions and Scopes)!

1. Legal definition of money:

Money that has a legal sanction by the government behind it is called legal tender or legal tender money.

Legal tender or legal money means money under the law of land. It is the money issued by monetary authority or government which cannot be refused by any person in payment for transactions. The tender or payment of it constitutes by law the sufficient discharge of debt.

The government issues an order stating what money is and that becomes legal tender money. Everybody is bound to accept it in exchange for goods and services and in discharge of debts. None 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 of transactions.


In this context, chequable demand deposit is not money because a person can legally refuse to accept payment through cheques. Legal tender status given by the government to money is of two types—limited legal tender and unlimited legal tender.

(i) Limited legal tender:

It is the money which can be accepted only up to a certain maximum limit fixed by law. For instance, in India, coins are limited legal tender because coins of 5, 10, 20 and 25 paise are accepted up to maximum sum of Rs 1000 as per Coinage Bill passed on 11th August, 2011. One could refuse payments in these small coins beyond a sum of 1000. One can refuse payments by an individual in small coins beyond this limit.

(ii) Unlimited legal tender:


It is the money for which there is no limit to the quantity of money offered in a payment at a time. For example, in India, paper notes are unlimited legal tender because all currency notes can be used to settle payments of unlimited value.

Remember, currency notes of the denomination of rupee two and above are issued by the Reserve Bank of India (RBI) whereas one rupee notes and coins are issued by the Government of India. (Printing of one rupee notes has been stopped by the government now.)

A cheque is an instrument that instructs the bank to transfer funds from the cheque issuer’s account to the cheque receiver.

2. Functional definition of money:

It is defined in terms of its functions. Accordingly, money is that which money does. It is based on the four functions of money already discussed. Broadly, anything which is generally accepted in payment of debt and as payment of goods and services should be included in money supply.


Alternatively, if a good is generally acceptable in payment and generally used as medium of payment, it should be treated as money, no matter what its legal status is. Thus, in India, money supply includes currency (coins + paper money) which is endowed with legal tender power and deposit money (i.e., money accepted by various agencies like banks from others).

3. Narrow Vs Broad definitions of money:

(a) Narrow definition of Money (M = C + DD):

It is based on ‘medium of payment function only. Thus, when money is identified with medium of payment function only and its other functions are overlooked, it is said to be narrow definition of money Thus, and anything which is used as medium of payment is included in narrow definition of money. Accordingly money (M) includes currency (C) and demand deposits (DD) of banks, i.e., M = C + DD. (This is a traditional approach to constituents of money

(b) Board definition of Money (M = C + DD + TD + SD):

It is the broad definition of money when scope of money is extended to include ‘store of value function in addition to medium of exchange function. These have a high degree of money-ness or liquidity and are widely used as store of value. In addition to currency and demand deposits (i.e., narrow money), items like time deposits (TD) and savings deposits SD) at banks and post offices are also included in broad money because such financial assets have a high degree of money-ness or liquidity which can be converted into demand deposits/cheques on a short notice. Thus, M = C + DD + TD + SD.

4. Money and Near Money:

A distinction between the two will be informatory. Money is anything which is used as a medium of exchange and has legal sanction of the government. It possesses 100% liquidity. Everybody is legally bound to accept it. For instance, money in India consists of corns and paper notes.

Near money is a close substitute of money rather than cash and currency It is as good as money but it is not real money because it has no legal sanction as money Assets which are close substitutes of money are near money. Examples of near money are Bonds.

Equity Shares, National Saving Certificates, Commercial Bills etc. Near money cannot directly purchase goods and services as cash or bank money can, but it can be converted into ready money easily within a short period of time. That is why it is called near money.