A barter system is an old method of exchange. Th is system has been used for centuries and long before money was invented. People exchanged services and goods for other services and goods in return.
The major limitations of Barter Exchange are:
1. Lack of Double Coincidence of Wants:
Barter system can work only when both buyer and seller are ready to exchange each other’s goods. For example, A can exchange goods with B only when A has what B wants and B has what A wants. However, such double coincidence is very rare.
2. Lack of Common Measure of Value:In the barter system, all commodities are not of equal value and there is no common measure (unit) of value of goods and services, in which exchange ratios can be expressed. For example, if A has wheat and B has rice, then it is difficult to decide, how much wheat is needed to exchange with one kilogram of rice. In the absence of common measure, the exchange ratio is fixed randomly, in which one of the party generally suffers.
Barter system can work with few commodities in the primitive society. However, it is very difficult in the modern economy, where we need millions of exchange ratios for a large number of goods and services.
3. Lack of Standard of Deferred Payment:
Under barter system, contracts involving future payments or credit transactions cannot take place with ease because of following reasons:(a) The borrower may not be able to arrange goods of exactly same quality at the time of repayment.
(b) There may be conflicts regarding which specific commodity is to be used for repayment.
(c) The commodity to be repaid may lose or gain its value at the time of repayment.
So, it is very difficult to make deferred payments in the form of goods.
4. Lack of Store of Value:
Under barter system, it is difficult for people to store wealth for future use because:
(a) Most of the goods (like wheat, rice, vegetables, etc.) do not possess durability, i.e. their quality deteriorates with passage of time.
(b) Storage of goods requires time and efforts.
As a result, goods cannot be used to store the earnings for a long period.
With so many difficulties, barter exchange could not continue for a long time. As a result, it was replaced by monetary exchange, i.e. buying and selling of goods with the help of ‘Money’. Money has been defined differently by different economists. The most acceptable definition of money can be stated in terms of all the functions of money.
