In economic terminology the word
Fiat Money is used to denote a specific form of currency, which is not bound to any metal that is supposed to be priceless.
A significant amount of the paper currency available all over the world is fiat money.
By definition the fiat money system is supported by national governments as being the recognized official medium of payment. Fiat money does not possess any inherent worth of its own and they do not have the support of any form of reserve as well.
As per history a substantial amount of currencies have been backed by commercially traded goods like gold and silver. However, the fiat money has never had the backing of any tangible commodity as such and is operating solely on faith.
In the present economic scenario it has been observed that the
fiat money is running on the risk of being worthless if hyperinflation happens. The fiat currency is also sanctioned by the governments for payments of taxes or other legal financial obligations. The fiat currencies also share some similarities with the paper money; the theory being that legal financial obligations are regulated by paper.
However not all paper currencies have the sanction of the governments to be used in legal transactions. One such example is the sterling used in Scotland. This currency lacks the stamp of governmental recognition but is, nonetheless, in use in Scotland, by virtue of faith.
Certain banks of issue are provided with the status of legal tender by the government fiats. These banks of issue have the right to use notes made by them. The basic drawback in the fiat money system is related to the human nature as such. It has been observed in the recent years, that there happens to be a surfeit of paper currency once any form of economic crisis occurs.